Why did the government take so much of my bonus?

March 23, 2022 | By Jessica Goedtel, CFP®

You got a bonus, woohoo! You’ve got big plans for this money, and want to make sure you know exactly how much you’re getting after taxes. You do the math using an old paycheck, figure your proceeds, maybe even round up for good measure. With a number firmly in hand, you start planning just how many plants you can buy with your windfall (lots, hopefully).

But then your bonus check comes in and it’s less than you thought. Where did your math go wrong? Dejected, you cross a few plants off your list. Goodbye, variegated monstera. I probably would have killed you anyway.

This my friends is a sneaky thing called supplemental wage withholding. And no, you probably didn’t do your math wrong. Whenever you get a bonus, Social Security, Medicare, and state taxes get withheld like they normally would. But the IRS then withholds federal taxes at a flat rate of 22%, which may be much higher than your normal federal taxes.

It’s not just bonuses either. If you receive equity compensation, you’ll see it if you have a payout of restricted shares or exercise some stock options. It also comes up if you work overtime. These are all things that the IRS classifies as supplemental income.

The good news is just because taxes were withheld at a specific rate doesn’t mean you’ll ultimately be taxed at that rate. There’s a lot that goes behind how much you get taxed, what payments you make and what credits you might receive. With supplemental wage withholding, the IRS is just setting aside a different cut than they normally would with your regular wages.

If you’re a high earner, your effective tax rate (aka the total tax you pay in relation to your income) might be higher than 22%. If that’s the case, you could find yourself owing taxes when you file. You may even have underpayment penalties. Tax planning in these situations can help you avoid surprises in April when it’s too late to fix them.