Business and Personal Finance: Employee Benefits and Bonuses

Managing the Payroll – Employee Benefits and Bonuses

One way to attract and hold on to the best employees is to offer benefits, such as health insurance or a retirement plan. Another is to reward them for good work by bumping up their annual pay with a bonus. Most of the time, both of these extras run through the payroll.

Bonuses are simpler. They act just like regular paychecks, except for the amount. The only tricky part, as you’ll soon learn, comes when you compute the withholding taxes for very big bonuses. Benefits are just plain more involved. They require more planning and paperwork, along with some special tax treatment.

Dealing with Benefits During Payroll

The two most common employee benefits are retirement plans and health insurance, both of which usually include contributions made by the employees themselves. When employees pay in to their retirement plans or for part of their health insurance premiums, you deduct their contributions directly from their paychecks; however, you deduct them on a pretax basis.

That means when you’re figuring out how much federal and (usually) state income tax to withhold, you don’t base it on an employee’s entire gross pay amount. Instead, you base it on gross pay minus any health insurance or retirement contributions the employee has made.

Special Considerations with Bonuses

At first glance, bonuses work just like regular paychecks. You start with a gross amount and take out taxes according to the tables. When the bonuses are in line with the employee’s regular paycheck, such as when an employee earning $300 a week gets a $300 bonus, your payroll job stops right there. Very large bonuses, though, take a little more thought. For example, if your company had an astronomically good year, you might hand out giant bonuses—say, $5,000 for an employee who normally earns $26,000 per year.

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Withholding the amount you normally would for his $500 weekly paycheck would leave him with a big tax bill next April. On the other hand, treating that one-time $5,000 bump as a regular weekly salary when you look in the tax tables would have you withhold far too much (though he may prefer that you do that, so ask him). To keep things simple, many employers just use a flat percentage, somewhere between 10 percent and 25 percent.