What is supplemental pay and when is it used?

Supplemental pay, also known as supplemental income, encompasses additional earnings beyond an employee's regular monthly salary. In the United States, this includes various forms of compensation outlined by the IRS, such as bonuses, overtime pay, awards, commissions, and more.

Supplemental Pay vs. Regular Wages

Supplemental wages differ from regular wages concerning payment dynamics, tax rates, and reporting requirements. While regular wages adhere to specific payroll periods and are typically paid monthly, supplemental wages can vary in payment frequency and are not mandatory for employers to provide.

Tax Implications for Supplemental Wages

The IRS defines distinct tax brackets for supplemental wages. For amounts exceeding $1 million annually, a flat tax rate of 37% is applied. For amounts equal to or below $1 million, employers can choose between the percentage method or aggregate method for tax calculation.

Withholding Federal Income Tax

When supplemental income is combined with regular wages, federal income tax is withheld as a single payment. However, if supplemental income is identified separately, withholding methods become more complex, including considerations for existing tax withholdings, concurrent regular wages, and multiple types of supplemental wages in a single payroll period.

State-Specific Considerations

States may impose their own tax rates on supplemental wages, varying based on the type of income. For example, California applies a tax rate of 6.60% for general supplemental pay but 10.23% for specific types like stock options and bonuses.

Ensuring Tax Compliance

Properly withholding taxes for supplemental pay is crucial for compliance, particularly for small businesses. Inaccuracies can lead to substantial fines and reputational damage. Employers must implement automated payroll solutions to ensure accurate withholding, including state income taxes.