Yes, you can change your tax withholding for a bonus, primarily by updating your Form W-4 with your employer to adjust the amount withheld from that specific paycheck or to ensure enough is withheld overall. Because bonuses are treated as "supplemental wages"—often taxed at a flat 22% federal rate or higher—adjusting your W-4 before the bonus is paid can prevent under-withholding.
Another common option for helping with current tax liabilities is to contribute to a tax-advantaged account, such as a 401(k), traditional IRA, or Health Savings Account (HSA). If you have one of these accounts, consider using a portion of your bonus to make a qualifying contribution.
You can't entirely avoid taxes on a bonus, but you can significantly lower the amount by contributing to tax-advantaged accounts (401(k), IRA, HSA), deferring the bonus to a year you expect to be in a lower tax bracket, or making charitable donations, thereby reducing your taxable income or increasing deductions at tax time.
Bonuses paid to you are taxable because they are income under Section 61 and no IRC section excludes them from taxation. However, if you receive fringe benefits – for example, tickets to an event or gift baskets – these may not always be considered taxable.
Your bonus can push you up into a higher tax bracket, and your tax liability might increase. As a result, the W-4 options you chose at the beginning of the year might no longer set the proper withholding amount from your earnings to prevent a bill come tax time.
The withholding rate for supplemental wages is 22 percent. That rate will be applied to any supplemental wages, such as bonuses, up to $1 million during the tax year. If your bonus totals more than $1 million, the withholding rate for any amount of the bonus above $1 million is 37 percent.
Yes, it is true you are allowed to change your W-4 to ensure less withholdings on your bonus pay. However, the ramifications of such a change may be unknown until tax filing time. Generally, it is better to leave your W-4 alone and have the extra withholdings.
Your bonus was likely taxed at 32% because employers use special IRS rules for "supplemental wages," often applying a higher flat withholding rate (like 22% or sometimes higher if combined with regular pay in the aggregate method) or pushing you into a higher tax bracket temporarily, but you'll get any over-withholding back as a refund at tax time since bonuses are taxed at your actual income tax rate eventually, not a permanent higher one.
Consider deferring your bonus to the next year to potentially save on taxes.
4 steps to lowering the tax liability of a bonus
Bonus contributed pre-tax to super
For example, tax on a $50,000 bonus: Paid to you and your marginal tax rate is 32.5% = $16,250. Paid to you and your marginal tax rate is 37% = $18,500.
The benefits of bonus sacrifice
The main benefit of paying your bonus into your pension is tax relief. If you take your bonus as cash, this will be subject to income tax, National Insurance contributions and maybe other deductions (such as student loans).
Because the IRS looks at bonuses as supplemental income instead of regular income, the tax rate for bonuses is higher. Typically, different rules apply to supplemental income, such as how taxes are withheld and reported.
The IRS allows two primary methods for taxing bonuses. The percentage method uses a flat 22% federal tax rate. This method is straightforward but could result in over-withholding for some individuals. The aggregate method combines your bonus with your regular earnings and then calculates taxes based on the total.
The IRS considers bonuses to be supplemental income and taxes them at a flat withholding rate of 22% (a higher rate applies to bonuses over $1 million). Your employer can tax your bonus in one of two ways — the percentage method or the aggregate method.
(Federal withholding, state withholding, Medicare, and some local taxes are paid on all taxable wages.) Miscalculating these amounts can lead to overpaying or underpaying taxes, which can create compliance and cash flow issues. Common errors include: Overpaying by applying taxes above the wage base limit.