What does this mean?
Well, I’m talking about giving bonuses to employees but not withholding payroll taxes. That’s right, you shouldn’t just give a bonus outside of payroll. Please, do not, do not pay bonuses this way because you can’t 1099 an employee for bonus.
Now for the boring IRS code and reason why part.
The long and short of it is that you need to pay bonuses through your payroll software to ensure they are recorded properly on the W-2’s and if you want to make sure that they are even dollar amounts you can increase the amount of the check to cover payroll taxes. The IRS considers all bonuses as general income, which employers must report on the employee’s W2 form.
How are bonuses included in W2 filings?
According to the IRS, bonuses are a form of compensation. As a result, bonuses are subject to the same taxation as an employee’s salary or other wages. Employers withhold a certain amount of bonuses for social security, Medicare, and other income tax withholdings as they do with regular wages. Since the IRS treats bonuses as supplemental wages, employers must report any bonus amount together with the employee’s annual wages. To do this, employers total the amount of bonus wages, calculating the value of any bonuses that are not direct wages, like vacations. They then report an employee’s total wages and supplemental wages in box one of the W2. Regular wages are subject to federal withholding at a flat rate of 22%, as are bonuses included in W2. Employers can choose to use the aggregate method instead of the 22%. The aggregate method involves subtracting the amount withheld from just an employee’s normal wages from the amount withheld of their combined normal and supplemental wages.
Either way, employers take some amount from a bonus.
Because the IRS categorizes bonuses as wages, these payments can adjust someone’s tax bracket or change any deductions they might have previously qualified for. Employers and employees alike should pay close attention to how bonuses appear on their tax filings.