While a bonus and a commission have some similarities, there’s a reason that they’re two different words. After all, words have power — but first, a story about an especially intense… board game night?
“What a travesty!” I said, in no way hyperbolizing the emotion I felt. I had just lost in a board game that I thought I was about to win. Admittedly, this is a more common occurrence than I wish was the case… However, if you asked me to define the word travesty in that moment, I would have given you the wrong definition. I tend to think I know what a word means, only to realize that when asked for an exact definition, I am at a loss, or would provide a faulty definition for that word.
Commissions and bonuses can often fall into that same category — words that have seemingly self-evident definitions but have more complexity when you look at their exact definitions. Let’s take some time to explore how bonuses and commissions are similar and different and how you, as an employer, may need to calculate the taxes to withhold on each.
What types of bonuses are there?
It’s important to clarify at the onset that there are two different kinds of bonuses: discretionary and non-discretionary bonuses.
A discretionary bonus is a bonus that an employer decides to give as a gift to their employees. Employers use a non-discretionary bonus to incentivize employees for extra effort or to meet targets. The key difference is that one is given at the employer’s discretion so that it could happen or it may not. The other is something that will happen if the employee earns it. Usually, a non-discretionary bonus is outlined in the employee’s compensation package or is discussed as a reward for meeting pre-outlined targets.
A commission is different from a bonus, whether discretionary or non-discretionary.
Even if your non-discretionary bonus is awarded for making a sale, it would not be considered a commission. A commission is a percentage, usually calculated on the amount of revenue that the company will collect from the business that the sale brings in. The larger the sale, the larger the commission. Depending on how you are structuring your sales incentives, they may actually be bonuses and not commissions. Or, most often, there is a mix of both. For example, your sales reps might get a 5% commission on each sale they make, and if they meet their quotas, they get an additional bonus.
Now that we’ve clarified the difference between bonuses and commissions, we are left with a few questions: Doe their discrepancies create tax calculation nightmares? Are commissions taxed differently bonuses? And is each different from regular wages?
Withholding taxes for commissions and bonuses
Fortunately, bonuses and commissions are considered supplemental wages and follow the same tax calculation rules. As long as you pay your employee a regular wage – either a salary or an hourly rate – you can include their bonus and commission dollars in the total wages and calculate that amount as if it were all regular wages. If you are only paying an employee in commissions and bonuses with no regular wages at all, then you should withhold 22% for federal withholding. Any earnings over 1 million dollars should be taxed at 37% if that is the case. If you are paying your employee over a million dollars in supplemental wages AND are trying to calculate the tax withholding manually, adjust your commission percentage so you can afford to outsource payroll.
Apart from tax calculation, a non-discretionary bonus and a commission also work the same when it comes to overtime. If you’re paying commissions and/or non-discretionary bonuses to an hourly employee, you must include their commissions and non-discretionary bonus earnings in the overtime rate. To calculate their adjusted hourly rate, take their total wages and divide it by their total hours worked. You then multiply that rate by 1.5 to find their mandated overtime rate. A discretionary bonus does not need to be calculated into the overtime rate in this way.
Have a bonus or commission question? Ask
At the end of that day, the differences between a bonus and a commission are simple in how they are initially calculated. From a payroll tax calculation point of view, they are handled the same way and can be used to reward your sales team for their hard work.
Still have questions? At Whirks, we love to work closely with our clients to solve their unique and individual business problems. Book a call with us to start the conversation, or check out our blog on all things wage garnishments to keep learning.