How Much Are Corporate Bonuses Taxed?

That year-end bonus brings a welcome boost, but the corresponding payslip can cause bewilderment when employees see how much tax was withheld. Unlike regular salary, bonus payments have specific withholding rules that can make the tax bite seem surprisingly large. This article breaks down how the IRS treats bonus pay, the methods used to calculate tax withholding, and what employers and employees need to know.

Are Bonuses Taxed Differently Than Regular Pay?

This is the most common point of confusion, and the answer has two parts. From a final tax liability perspective, no. Your bonus is just considered another piece of your ordinary income. When you file your annual tax return, your bonus money is added to your salary, interest income, and any other earnings, and it’s all taxed together according to your marginal tax bracket.

However, from a tax withholding perspective, the answer is often yes. The IRS considers bonuses to be "supplemental wages." Because these payments are outside the scope of regular paychecks, employers have different options for withholding taxes on them. This difference in withholding is why a $10,000 bonus doesn't result in the same net pay as a regular $10,000 paycheck. The withholding calculation is usually much simpler for the bonus but often higher, leading to the "sticker shock" when the check lands.

The Two Methods for Withholding Taxes on Bonuses

The IRS gives employers two primary options for withholding federal income tax on supplemental wages like bonuses: the Percentage Method and the Aggregate Method. Most payroll departments prefer one over the other for its simplicity and consistency.

Method 1: The Percentage Method

The Percentage Method is the most straightforward and widely used approach. For this method, federal income tax is withheld at a flat rate, regardless of the employee's W-4 information or regular pay amount. There are two tiers for this flat rate:

• For cumulative supplemental wages up to $1 million in a calendar year: The flat withholding rate is 22%.
• For cumulative supplemental wages over $1 million in a calendar year: All supplemental wages starting with the dollar that pushes the employee over the $1 million threshold are subject to a 37% withholding rate (the highest marginal tax rate).

Let's look at a simple example. An employee receives a $15,000 bonus. The company uses the Percentage Method for supplemental wages.

Federal Income Tax Withholding: $15,000 x 22% = $3,300

The employer would remit $3,300 to the IRS for federal income taxes. It’s important to remember this withholding does not account for FICA (Social Security and Medicare) taxes or any applicable state and local taxes, which we will cover shortly.

The primary advantage of this method is its simplicity. It requires no complex calculations related to the employee's pay frequency or filing status, making it easy to administer for large bonus runs.

Method 2: The Aggregate Method

The Aggregate Method is more complex and treats the bonus as if it were part of the employee's regular pay for that pay period. This method must be used when the bonus is paid out with the employee's regular paycheck and the specific amounts are not listed separately on the pay stub.

Here are the steps involved:

1. Combine the bonus payment with the employee's regular wages for the current or most recent pay period.
2. Use the employee's Form W-4 information and the standard IRS withholding tables to work out the federal income tax withholding on the total combined amount.
3. From that total withholding amount, subtract the amount of tax typically withheld from the regular wages.
4. The remaining amount is the tax to be withheld from the bonus payment.

An example makes this clearer:

• An employee is paid $4,500 bi-weekly. Their regular federal withholding is $400 per check.
• They receive a $5,000 bonus in the same paycheck.
• Total compensation for the pay period is $9,500 ($4,500 + $5,000).
• Using the IRS wage-bracket tables, the withholding for a $9,500 bi-weekly paycheck (based on their W-4) is calculated to be $1,570.
• The employer subtracts the regular withholding: $1,570 - $400 = $1,170.

The withholding for the $5,000 bonus is $1,170. This results in an effective rate of 23.4% ($1,170 / $5,000), which is slightly higher than the flat 22%. A major disadvantage of this method is that it can lead to significant over-withholding, as it briefly treats the employee as if their annual salary is much higher than it actually is.

Don't Forget About State and Local Taxes

Federal income tax is only one piece of the puzzle. Most states also tax bonuses, and their rules can vary significantly.

• States with a Required Flat Rate: Some states, like California, New York, and Ohio, have their own required flat withholding rate for supplemental wages. These rates must be applied in addition to the federal rate.
• States Following Federal Rules: Many states simply follow the federal rules, allowing employers to choose between the Percentage or Aggregate methods.
• States with No Income Tax: If your employees are in states like Florida, Texas, or Wyoming, you only need to worry about federal and FICA taxes.

It’s essential for payroll departments managing multi-state workforces to be precise about these jurisdictional rules. Forgetting to apply a state-specific supplemental rate can lead to compliance issues and under-withholding for employees.

What About FICA Taxes?

Bonuses are fully subject to FICA taxes (Social Security and Medicare), just like regular wages. These taxes are calculated on the gross bonus amount and are in addition to any federal or state income tax withholding.

For 2024, the FICA tax rates for employees are:

• Social Security: 6.2% on all earnings up to the annual wage base limit of $168,600. Once an employee's total year-to-date earnings exceed this cap, Social Security tax is no longer withheld.
• Medicare: 1.45% on all earnings, with no wage limit.

High-income earners are also subject to an Additional Medicare Tax of 0.9% on earnings over certain thresholds ($200,000 for single filers, $250,000 for married filing jointly). This also applies to bonus payments that push an employee over these thresholds.

Putting It All Together: A Complete Example

Let’s walk through a comprehensive example to see how all the pieces fit together. Your employee has an annual salary of $120,000 and is receiving a $20,000 bonus. Their year-to-date earnings are below the Social Security wage limit. The company uses the 22% Percentage Method, and their state has a 4% flat supplemental withholding rate.

• Gross Bonus: $20,000
• Federal Income Tax Withholding (22%):
  $20,000 x 0.22 = $4,400
• State Income Tax Withholding (4%):
  $20,000 x 0.04 = $800
• Social Security Tax Withholding (6.2%):
  $20,000 x 0.062 = $1,240
• Medicare Tax Withholding (1.45%):
  $20,000 x 0.0145 = $290
• Total Taxes Withheld:
  $4,400 + $800 + $1,240 + $290 = $6,730
• Net Bonus Check:
  $20,000 - $6,730 = $13,270

As you can see, the total withholding is 33.65% of the bonus, a figure that often surprises employees who were expecting a flat 22% reduction.

Key Strategies and Common Questions

A little proactive planning and communication can help manage expectations around bonus season. For employees, understanding that high withholding will likely result in a larger tax refund can ease concerns. If an employee feels the withholding is too high or too low, they can adjust their Form W-4, though it's best to consult a professional before doing so.

For employers, the Percentage Method is generally the easiest course of action, implemented by most modern payroll systems like QuickBooks Payroll or ADP. The most valuable action an employer can take is to communicate clearly how bonuses will be taxed ahead of time. A short memo or email explaining the 22% federal rate plus FICA and state taxes can prevent payroll from being inundated with questions.

Employees with access to tax-advantaged retirement accounts may have another option. If their company’s 401(k) or 403(b) plan allows, contributing a portion or all of their bonus directly to their retirement account can reduce their taxable income for the year, saving money on taxes now while saving more for the future.

Final Thoughts

Ultimately, bonuses are taxed as ordinary income, but their high withholding rates often make it feel otherwise. Understanding that the supplemental withholding rules—typically the 22% flat federal rate—are separate from the final tax calculation is the key. Proper withholding ensures tax compliance and prevents unexpected tax bills, even if the net bonus check seems smaller than anticipated.

Accounting professionals often field nuanced client questions about supplemental wages, timing of bonus accruals, and the state-by-state variations in withholding rules. When needing a definite answer grounded in the tax code, we use Feather AI to get clear, citation-backed responses in seconds. It allows us to give confident advice without spending hours searching through IRS publications or state revenue sites.