Taxation and Deductibility of Christmas Bonuses and Gifts
It is the time of year when the snow is beginning to fall and plans are being made for the annual holiday parties. With the economy turning around, some employers may be thinking about rewarding their employees with bonuses or gifts. If you are in this position, you need to know how the IRS handles the taxation and deductibility of these employee perks.
Bonuses are supplemental wages (compensation paid in addition to the employer’s regular wages) and are therefore taxable compensation; they will show up on your books as wages on the income statement and are fully deductible. Keep in mind they must have both employer and employee taxes taken out just like a regular paycheck. The only way to keep the bonus off of the employee’s W-2 and not pay the associated payroll taxes is to make it a profit sharing bonus through your 401(k) profit sharing plan.
The IRS specifies a flat “supplemental rate” of 25% for the federal withholding part of the bonus; this is the reason why the actual bonus amount ends up being much smaller than the original amount. Many employers figure out what they want to hand their employees and “gross up” that amount; the gross amount of the bonus is higher because of the estimated taxes and the net amount of the bonus is what the employer wants the employee to take home.
Gifts to employees are limited to a $25 tax deduction no matter the value of the gift. If you are married, you and your spouse are treated as one taxpayer for the $25 deduction; if you both own separate companies and each give the same person a gift, you many only deduct $25 – not $50.
If your business gives employees goods or merchandise of nominal value, you can deduct the cost as a non-wage business expense; gifts other than cash with a low market value are considered de minimis benefits that are excluded from the employee’s wages. The turkey you give for holiday dinners can be deducted by you and is not included in your employee’s income.
Cash and cash equivalent fringe benefits (gift cards, charge cards, and credit cards) are never excluded from employee’s wages as de minimis benefits, regardless of the amount. These types of gifts must be included in the employee’s wages as taxable income on their W-2.
Deductions for de minimis gifts of food or drink are not subject to the 50% limit on deductions for business meals; a holiday party thrown at work would generally be fully deductible as an expense for your business.
Please give us a call at (260) 407-5000 if you have any questions. Enjoy the holidays!!!