Who doesn’t want to feel the appreciation that comes with a bonus after a job well done? While it can make you feel appreciated for sure, you may feel some frustration and surprise when you see how much of that bonus is gobbled up in taxes. If you haven’t ever gotten a bonus, you may not realize that it is taxed differently than the rest of your income. Mark Dicus & Company is here to talk about why bonuses are taxed so much higher than the rest of your income.
Why is My Bonus Taxed Differently?
The reason that taxes are higher on bonuses is because they are considered a supplemental income. They are simply held to a higher withholding rate. There is more than one way that an employer can take taxes from your bonus. Here are the two different ways:
– Percentage Method: If you are receiving your bonus money in a separate check than your normal paycheck, your employer will tax it using the percentage method. This means that it will be taxed with a flat 22%. This is also used to tax things like severance pay, commissions and overtime.
– Aggregate Method: When your bonus is simply added to your normal paycheck, the aggregate method will be used to calculate your taxes. Your employer will withhold taxes from your bonus as well as your normal earnings. Since you are getting more money, they will be withholding more money.
Offset Bonus Taxes with Deductions
Depending on the size of your bonus, you may be able to offset the high taxes with deductions. When you are only getting a few hundred dollars, it is what it is. When you are receiving a sizable amount of money, that is a different story. You may be able to donate more money to your favorite charity, increase your retirement savings, prepay property taxes and more. There are a few different ways that you can use deductions to help you out.
Defer Bonus to a New Tax Year
Companies often give bonuses either at the end of the year or beginning of the next. Many choose to do it at the end of the year because it is better for them tax wise. However, if that bonus is going to propel you into a higher tax bracket, you can also try and get your employer to wait until the new year to give you the bonus. It may seem like you would benefit the most from getting a bonus spread out through the tax year. However, most employers don’t know how much they are going to be able to give to their employees as a bonus until the end of the year, and this is often why employees end up getting it in a large lump sum.