Feeling generous? Don’t let your holiday or year-end bonuses land you in hot water
In 2018, 38% of small business owners planned on giving holiday bonuses to their employees. If you fall under this statistic, your employees will thank you for it.
But if your execution stinks, your business will not be so appreciative.
Done legally and fairly, year-end or holiday bonuses are a great way to retain top performers and show your appreciation. Done wrong, bonuses could lead to penalties and disgruntled workers.
Don’t let your generosity turn sour—read up on how to give bonuses.
5 Tips For Giving Employees Bonuses
‘Tis the season to be jolly and generous. Whether you’re giving your workers a holiday or year-end bonus, your employer duties are nearly the same.
A bonus is a one-time payment a business gives to its employees in addition to their regular wages. It is a type of supplemental pay. Employers can decide whether to give bonuses to some or all of their employees (i.e., performance-related bonuses).
Unless you promise bonuses to employees, known as nondiscretionary bonuses, you are not required to give them out. But again, a good number of employers do decide to give employees bonuses toward the end of the year.
If you want to shower your employees with a little something extra this year, use the five tips below to keep things fair.
1. Come Up With A System
Most businesses don’t spontaneously decide to give bonuses to their employees. A lot of companies plan for bonuses at the beginning of the year (or at the end of the previous year).
Likewise, you need to come up with a system before handing out bonuses willy-nilly. Otherwise, one simple gift could mess up your budget and land you in negative cash flow territory.
Before you reward employees with a year-end bonus, think about things like:
- Who will receive bonuses
- Whether end-of-the-year bonuses will be based on merit or standard
- How to determine which employees get what amounts
- If you planned for bonuses or if they’re spur-of-the-moment gestures
Without a system, you may lose track of which employees you’re giving what amounts to. Although bonuses are discretionary, don’t give some employees larger amounts than others because you feel like it. Otherwise, you could end up with frustrated employees.
Always keep clear records of your system and document the bonus-giving process.
2. Decide What The Bonus Will Be
Monetary bonuses (e.g., cash or gift cards) are great, and they’re what the majority of employees want. But, they’re not the only types of bonuses you can give.
According to an SHRM article, the top-desired bonuses after money are paid vacation, flextime, and more time off.
If you’re short on cash or want to show employees your appreciation with a non-traditional bonus, opt for one of the above alternatives.
You may decide to give some employees one type of bonus and others another type. Whatever you decide to give, your employees will likely be thankful.
3. Make Sure You Can Afford It
A bonus is an investment. When you invest in your employees, you may see a high return on investment (ROI), namely in the form of engagement, productivity, and retention.
But when it comes to investments, we all know the one catch—you have to have money for the investment first.
Before you give your employees the year-end bonuses they deserve, make sure you can afford it. If not, you could be setting your business back, and nobody wants that going into a new year.
Again, most businesses factor bonuses into their budgets. If you have, look at your annual budget to verify you’re on track and can afford to give them. If you haven’t, look at your cash flow statement to determine if you have enough funds to be generous.
4. Keep It Legal
Just like regular wages, bonuses aren’t tax-free. Handing out bonuses without withholding taxes is illegal.
If you don’t want your kind deed to turn into a mess of legal problems, do yourself a favor and withhold the darn taxes.
Bonus payments are subject to the same taxes as regular wages, including:
- Federal income tax
- Social Security tax
- Medicare tax
- State income tax (if applicable)
- Local income tax (if applicable)
As you may recall, I mentioned earlier that bonus payments are known as supplemental wages. Unlike regular wages, you have two options for withholding federal income taxes on bonuses.
You can either withhold income tax on bonus payments at the flat supplemental wage rate of 22% or add them to the employee’s regular wages and withhold using the new tax bracket.
Easy enough, right? Right! Especially if you have a good payroll software, which will be able to easily calculate supplemental taxes on bonus pay.
Want To Avoid Giving Odd Bonus Amounts? Do A Tax Gross Up
By now, you probably know that the sticker price on an employee’s salary isn’t what they go home with. Taxes can mess up your perfect, neat little bonus package, too.
Want to give a $500 bonus? That’ll amount to $351.75 after federal income, Social Security, and Medicare taxes (22% supplemental tax and 7.65% combined Social Security and Medicare tax). Here’s your $351.75 bonus, Charlie. And if you give a cash bonus, it’s going to be a little odd giving random change amounts to your employees.
What I, along with many businesses, do is gross-up bonus amounts. A tax gross-up increases the bonus amount before taxes so that it amounts to your desired amount after taxes. That way, the bonus amount before taxes is a random number, but it comes out to a neat little number after you withhold taxes.
5. Report Bonuses On Form W-2
Withholding taxes from bonus payments is just part of the equation. The IRS wants to know about it, too. Don’t forget to record bonus amounts on each employee’s Form W-2.
Add bonuses to the employee’s total wages and write down that value in Box 1 (Wages, tips, and other compensation) on Form W-2.
But here’s one little caveat: remember to include the bonus pay in the year that they were paid to the employee.
Unlike holiday bonuses, a lot of year-end bonuses aren’t given to employees until January of the following year. If you give your staff a year-end bonus in January, do not include it on the Form W-2 for the previous year.
The Bottom Line
I’ll leave you with these final three things to remember about bonuses:
- Keep it legal
- Keep it smart
- Keep it in your books
Happy gift-giving, small business owners!