I understand. You get a bonus from your employer and see that taxes were withheld at a whopping 50%! Or something like that. That $3,000 bonus you were expecting ending up being a little more than $1,500 in your bank account.
I will get into the details of the data behind this, but, first, the short answer: Your bonus is not taxed any higher than your normal wages.
It feels like the bonus is taxed at a super high rate, but I can assure you it is not. The amount being withheld for tax purposes (because it is a bonus) is at a higher rate than your normal wages, but when the tax return is filed, it is not being taxed at a higher rate. Understanding the difference between income tax withheld and income taxes is important. It is also important to distinguished between income taxes and payroll taxes.
Just like regular, normal wages, bonuses have payroll taxes withheld—at the exact same rate as normal wages. This is roughly 8% of your total earnings. Payroll taxes have almost nothing to do with your income taxes as an employee. You typically do not pay too much, too little, owe them on the tax return, or get them refunded on the tax return. They are a set percentage rate and withheld at that rate every time you get paid.
Example 1—You work a normal 40 hours at $20/hour. Your earnings are $800. Your payroll taxes are $64. Your take home pay is $736.
Example 2—Your boss is a very generous person and gives you a bonus of $800. Your payroll taxes are $64. Your take home bonus is $736.
Payroll taxes now aside, you also have income taxes withheld on that $800—State and Federal (IRS) withholding at a rate that varies from person to person, paycheck to paycheck, and type of pay. Income taxes withheld have everything to do with your income tax returns. You can have too much withheld, too little withheld, owe them on the tax return, or get them refunded to you. Properly filling out a Form W-4 (and the state equivalent) should get you to where you need to be with income taxes withheld. They show up on your paystub as FIT (Federal Income Tax), SIT (State Income Tax), or some other wording like that.
Example 1—You work a normal 40 hours at $20/hour. Your earnings are $800. Your payroll taxes are $64. Your FIT is $75 and your SIT is $25. Your tax home pay is $636.
Example 2—Your boss is a very generous person and gives you a bonus of $800. Your payroll taxes are $64. Your FIT is $200 and your SIT is $100. Your tax home pay is $436. What just happened?? “You wrote above that bonuses are not taxed higher!!”
Yes, I did write that. And they aren’t. They are not taxed higher, but they do have a higher rate of income tax withheld. There are various reasons why more is withheld on bonuses. The main reason is because it is a requirement of the government guidelines on withholding. They assume that the bonus might be taxed at a higher level and, therefore, want to be sure you have enough withheld.
Example 1—You earned $40,000: no bonuses, just the normal hourly wages. Your payroll taxes are $3200. Your FIT is $3700 and your SIT is $625. When you file your income taxes, you find out that you have an income tax liability to the IRS of $3,163 and to the state of $943. This means that you will get a refund from the IRS of $537 ($3700 FIT minus $3,163). But you owe the state $318 (Your SIT was not enough to cover the state income tax liability, too bad!)
What we are concerned with here is total taxes paid on $40,000 of normal wages. $3,200 (payroll taxes) + $3,163 (Federal Income Tax Liability) + $943 (State Income Tax Liability) = $7,306 in taxes paid.
Example 2—You earned $40,000: $25,000 from normal wages and $15,000 was a bonus. Your payroll taxes are $3200 (see that does not change from Example 1). Your FIT withheld is $8700 and your SIT withheld is $2125. When you file your income taxes, you find out that you have an income tax liability to the IRS of $3,163 and to the state of $943. This means that you will get a refund from the IRS of $5537 ($8700 FIT minus $3,163). And you will get an income tax refund from the state of $1,182.
Note again in Example 2, your total taxes paid are the exact same as Example 1. The only difference being that your bonuses had much, much more withheld for income tax withholding purposes.
In conclusion, it does feel like your bonuses are taxed at a higher rate, because FIT and SIT withholding are much, much higher. Ultimately, all that gets reconciled on the tax return: You do not pay a higher income tax rate on bonuses vs wages.