Holiday Bonus Taxes: How Employee Bonuses Are Taxed

The federal bonus tax rate is a flat 22% for withholding on most bonuses, rising to 37% on supplemental pay above $1 million in a year. On top of that, bonuses carry 7.65% Social Security and Medicare tax and any state income tax, which is why a $1,000 holiday bonus often lands in an employee's account as $650 to $700. The final tax is the same as on any wage; the 22% is only how it is withheld.

This guide explains the two withholding methods, gift cards, grossing up, timing your year-end bonus, and what to tell employees. It is general information, not tax advice.

Bonus tax rate: how bonuses are withheld

The IRS calls bonuses, commissions, back pay and similar payments supplemental wages. IRS Publication 15 gives employers two methods for federal income tax withholding.

Method	How it works	When it can be used
Optional flat rate	Withhold exactly 22% of the bonus	Bonus paid separately or identified separately, and income tax was withheld from regular wages this year or last year
Aggregate method	Add the bonus to regular wages for the period and withhold as if the total were a normal paycheck, minus tax already withheld	Always available; required if no income tax was withheld from regular wages
Mandatory flat rate	37% on supplemental wages over $1 million in the calendar year	Required for the amount above $1 million

FICA on bonuses

• Social Security: 6.2% from the employee and 6.2% from the employer, until the employee's wages reach the wage base ($184,500 for 2026; $192,300 for 2027).
• Medicare: 1.45% each, with no cap. The employer must also withhold 0.9% Additional Medicare Tax once an employee's wages pass $200,000 in the year.
• Federal unemployment (FUTA): usually already maxed out by year-end, since it applies only to the first $7,000 of each employee's wages.

Worked example: a $5,000 holiday bonus

Illustrative: an employee earning $70,000 receives a $5,000 bonus in a separate check in December 2026, in a state with no income tax.

Item	Rate	Amount
Gross bonus		$5,000.00
Federal income tax (flat method)	22%	-$1,100.00
Social Security	6.2%	-$310.00
Medicare	1.45%	-$72.50
Net to employee		$3,517.50
Employer's FICA cost	7.65%	$382.50

The employee's top bracket is 22%, so the withholding roughly matches the final tax. Under the aggregate method, combining the bonus with a $2,692 biweekly paycheck would push the annualized income higher in the withholding tables and could withhold more than 22% on the bonus; the excess returns as a refund.

How to gross up a bonus

If you want an employee to receive a round net amount, gross it up:

1. Add up the rates: 22% federal + 7.65% FICA = 29.65% (add state and local rates where they apply).
2. Subtract from 1: 1 - 0.2965 = 0.7035.
3. Divide the net by that figure: $1,000 / 0.7035 = $1,421.46 gross.
4. Check: $1,421.46 less $312.72 federal and $108.74 FICA leaves $1,000.00.

Your employer cost is the gross plus 7.65% employer FICA, about $1,530 in this case. Our guide to employer payroll taxes covers the employer side in detail.

Gift cards, gifts and other holiday perks

Holiday perk	Taxable?	Why
Cash or check bonus	Yes	Supplemental wages
Gift card of any amount	Yes	Cash equivalent, never de minimis
Holiday turkey, ham or fruit basket	Usually no	De minimis fringe benefit
Holiday party for staff	No	De minimis; often fully deductible by the business
Extra paid day off	Yes, when paid	Regular wages for the day
Employee achievement award (tangible property)	Often no, within limits	Special rules for length-of-service and safety awards

Run gift cards through payroll, even small ones, so they appear on Form W-2.

Timing a year-end bonus

• Cash-method businesses deduct the bonus in the year it is paid. A December 30 payment counts for 2026; January 2 counts for 2027.
• Accrual-method businesses can generally deduct a 2026 bonus paid by March 15, 2027, if the obligation was fixed by year-end.
• Payroll deadlines: process the run early enough for funds to arrive before holidays, and remember bank closures on December 25 and January 1.
• Wage base resets: bonuses paid in January start a new Social Security year, which matters for high earners who already hit the 2026 wage base.

Year-end bonuses also fit into broader year-end tax planning for small business.

Bonuses and overtime pay

A nondiscretionary bonus, one promised for meeting targets or attendance, must be included in a non-exempt employee's regular rate for overtime. If an hourly employee earned a $500 production bonus over a period with overtime, you may owe extra overtime pay. Purely discretionary holiday bonuses, decided at the employer's sole discretion and not promised in advance, are excluded. The 2025 law's deduction for no tax on overtime does not cover bonuses.

Can business owners pay themselves a bonus?

It depends on how the business is taxed.

Business type	Owner bonus?	Tax treatment
Sole proprietor or single-member LLC	No	You are taxed on all net profit; taking money out is an owner's draw, not a bonus
Partnership or multi-member LLC	Not as wages	Extra pay is a guaranteed payment or a distribution under the partnership agreement
S corporation	Yes, through payroll	Supplemental wages with withholding and FICA; distributions are separate
C corporation	Yes, through payroll	Deductible to the company if reasonable; taxable wages to you

S corporation owners sometimes pay a year-end bonus to bring their salary up to a reasonable level, or to fund a larger retirement contribution based on W-2 pay.

Bonuses and retirement deferrals

If your 401(k) or SIMPLE IRA plan defines compensation to include bonuses, employees' deferral percentages apply to bonus checks too, and the employer match may follow. Check your plan document. Employees close to the annual deferral limit may hit it with a large December bonus, and payroll should stop deferrals once the limit is reached. Employees can also ask to defer a larger share of a bonus if their plan allows a separate bonus election.

State tax on bonuses

Most states with an income tax also have a supplemental withholding method, often a flat percentage for bonuses, while others require you to use the regular withholding tables or aggregate method. Rates and rules vary widely, and a few states treat bonuses differently from commissions. Local income taxes may also apply in some cities and counties. Check your state revenue department's employer withholding guide, or let your payroll provider handle it; most payroll software applies the correct state method automatically once you mark a payment as a bonus.

Bonuses for seasonal and part-time staff

Seasonal workers who earn little may have had no income tax withheld from regular wages because of their W-4 or low pay. In that case the 22% flat method is not allowed and you must use the aggregate method, which often results in little or no income tax withheld on a small bonus. FICA still applies in full. Part-time employees in states with mandatory paid sick leave may also need any nondiscretionary bonus included when calculating their sick pay rate, so check state rules before promising bonuses tied to attendance or performance.

Communicating bonuses to employees

Employees are often surprised by how much of a bonus disappears to withholding. A short note avoids frustration:

• State the gross amount and, if possible, the estimated net.
• Explain that federal withholding on bonuses is a flat 22% and that the final tax is settled on their return.
• Mention when the bonus will be paid and whether it is in a separate check or combined with regular pay.
• If you grossed up the bonus, say so, so employees know the net figure is intentional.

Gifts to clients are different

Holiday gifts to clients and customers are not wages. A business can generally deduct only $25 per recipient per year for business gifts, though incidental costs such as engraving and shipping, and items costing $4 or less with your business name permanently on them, are excluded from that limit. Client entertainment is generally not deductible. Keep a list of recipients and costs with your year-end records.

Step by step: paying holiday bonuses correctly

1. Decide amounts and whether to gross up.
2. Choose the withholding method; the flat 22% method requires the bonus to be identified separately.
3. Run the bonus through payroll, not as a personal check or from petty cash. Our guide on how to do payroll yourself walks through a pay run.
4. Include state tax; many states also have a flat supplemental rate.
5. Deposit the withheld taxes on your regular deposit schedule.
6. Report everything on the employee's W-2 for the year paid.

Common bonus tax mistakes

• Paying contractors a bonus through payroll. Contractors are paid on their invoice, and any bonus is reported on Form 1099-NEC if their total payments reach the threshold.
• Treating gift cards as tax-free gifts.
• Forgetting the employer FICA cost when budgeting.
• Telling employees the bonus is taxed at a higher rate. Explain that the final tax is reconciled on their return; employees who receive large bonuses may want to review their Form W-4.

Plan bonuses around cash flow

Bonuses depend on clients paying what they owe before year-end. Send final invoices early in December and follow up on overdue ones; our year-end invoicing checklist covers the details. You can create those invoices with our free invoice generator, with no sign-up required, and download each one as a PDF.