This article was written by Shandy Bonzo, Client Implementation Specialist and member of the Helpside Payroll Team.
Bonuses and commissions are two types of common pay that employees may receive in addition to regular employee wages. Understanding how these types of pay are viewed for the purposes of taxes and overtime is important for employee and employers.
What is a bonus?
A bonus is an amount paid to an employee in addition to their regular compensation. The amount is considered income and is subject to income tax withholding, social security, Medicare, and FUTA.
What are the different types of bonuses?
- Discretionary bonuses are variable pay in which an employer provides additional compensation to an employee for reasons outside a prior contract, agreement or promise leading an employee to expect regular payments. A holiday bonus that is not promised but given to employees at the discretion of the leaders in the company is one example.
- Nondiscretionary bonuses are payments promised or expected and are typically based on quality, quantify and efficiency of production or hours worked. A performance bonus paid to a customer service time who hits their target response time is one example.
What are commissions?
Commissions are a flat rate or percentage of sales of goods or services. The amount is considered in come and is subject to income tax withholdings, social security, Medicare, and FUTA.
What are the different types of commissions?
- Draw Commissions are an advance against future anticipated commission earnings.
- Piece Work Commission are payments based on total items made or service performed or may be a percentage of total revenue.
- Graduated Commissions are calculated into a person’s pay on top of their regular salary or wage and increases at specified thresholds. For example, 5% commission on the first $50,000.00 of sales, and bumps up to 6% above $50,000.00.
How do bonuses and commissions impact overtime pay?
If employees are non-exempt from overtime according to FLSA standards, employers must add an employee’s bonus or commissions to the employee’s wages and divide the total compensation given to the employee for that workweek by the total number of hours the employee actually worked during that workweek. Commission wages must be included in the pay period when they were earned, not when they are paid.
How are bonuses and commissions taxed?
The IRS issued regulations in 2006 defining supplemental wages and the methods for calculation the amount of federal income tax withholdings.
Regular wages are amounts paid for a payroll period at an employee’s regular rate or predetermined fixed amount.
- Regular wages are withholding utilizing an employee’s Form W-4 elections.
Supplemental wages per Publication 15 (Circular E) are wage payments to an employee that aren’t regular wages. They include, but aren’t limited to, bonuses, commissions, overtime pay, payments for accumulated sick leave, severance pay, awards, prizes, back pay, reported tips, retroactive pay increases, and payments for nondeductible moving expenses.
- Under the supplemental method, employers disregard the amount of regular wages paid to an employee as well as the withholding allowances claimed or additional withholding amounts requested by the employee on their Form W-4.
- This method is available when two conditions are met:
- Income tax has been withheld from regular wages paid to the employee during the same year as the payment of supplemental wages or during the preceding calendar year.
- The supplemental wages are either not paid concurrently with regular wages or separately stated on payroll records of the employee.
- Supplemental wages are taxed at a flat amount of 22% for 2022, and supplemental wages exceeding $1,000,000.00 are taxed at a flat rate of 37%.
As an example, your employee is paid $1,500.00 in wages on the 5th and 20th of each month and has federal income tax withheld. Your employee receives a $1,000.00 bonus. The bonus could be included with regular wages and taxes withheld at the employee’s regular W-4 withholding amounts. Or the bonus could be identified as supplemental wages and taxed at the flat rate.
Complicated pay situations are the specialty of the payroll and HR experts at Helpside. If you have questions, please reach out to us at firstname.lastname@example.org.