The Rule on Supplemental Pay

• The Internal Revenue Service views supplemental pay as wages and other cash benefits you are paid outside of your normal salary. For most people, the IRS requires a 25 percent flat tax on the supplemental pay. For those who receive more than $1 million in supplemental pay, the rate is 35 percent. At the end of the year, supplemental pay is part of your taxable income for filing purposes. The tax rate applied to it counts toward your federal income tax. IRS publication 15 is an employer's guide to supplemental pay, but also a good source of information for employees.
  
  

Definition

• The IRS lays out nine situations it considers as constituting supplemental pay. They are commissions paid at fixed intervals to employees with no regular wages; commissions paid at fixed intervals in addition to regular wages paid at different intervals; draws paid in connection with commissions; commissions paid only when the employee reaches an accumulated commission credit; signing bonuses; severance pay; payouts of vacation and sick leave; sick pay paid at a different rate from regular pay; and lump-sum payments of accumulated leave paid after an employee is terminated. If any of these situations applies to you, you have received supplemental pay.
  
  

Employer's Calculations

• Your employer generally will do one of two things to withhold taxes from your supplemental pay: He will either separate the supplemental pay from your regular pay on your stub and tax it at 25 percent; or he will include the supplemental pay with your regular pay and use what is called the aggregate method to withhold the tax. Aggregating means adding all the supplemental pay to regular pay and calculating the taxes based on the rate for regular pay. The employer subtracts the taxes already withheld from the regular pay, and then subtracts the remaining tax from the supplemental pay.
  
  

State Income Taxes

• Most states with income taxes will defer to federal rules on supplemental withholding. There are some that have their own state income tax rules on supplemental pay. California, for example, has an additional 6.6 percent state withholding on supplemental pay. That means that a person who receives a $1,000 bonus will only pocket $664. Check with your state department of revenue to find out whether you will have to pay additional state withholding on supplemental pay.