- Holiday bonuses are gifts given by employers during the holiday season.
- Holiday bonuses are taxed and may be subject to higher withholdings if they are built into an employee's regular paycheck.
- The benefits of giving holiday bonuses include higher employee engagement and increased productivity.
- This article is for small business owners who want to learn what holiday bonuses are, how they are taxed and how to pay them to employees.
Giving holiday bonuses is a great way to make your staff feel valued and supported as the year wraps up. When most people think of a holiday bonus, money comes to mind. However, there are other types of holiday bonuses. If you are thinking about awarding holiday bonuses, it is important to give it careful thought and planning. Be sure you understand the different types of bonuses, how they're taxed and the benefits of awarding them to employees.
What is a holiday bonus?
A holiday bonus is a gift given by an employer to an employee during the holiday season. A holiday bonus can be a physical gift, extra days off or, most commonly, a monetary payment. Holiday bonuses differ from year-end bonuses, because for year-end bonuses, an employer typically considers the employee's years of service, base pay or performance level, whereas holiday bonuses are usually given out equally to all employees.
Key takeaway: A holiday bonus is a gift given by an employer to an employee during the holiday season – most commonly, extra compensation.
What are some tips for giving holiday bonuses?
If you are thinking about giving holiday bonuses to your employees this year, it's important to keep these points in mind:
- Avoid connecting the bonus with a particular holiday, unless you are a religious organization. Refer to it as a "holiday bonus" rather than a "Christmas bonus."
- Make sure the bonus is doled out equally to every employee in your organization. Every employee should receive something, preferably the same as everyone else. This can go a long way in improving morale and making employees feel valued.
- If you can't give monetary bonuses, consider other gifts, like extra paid time off around the holidays.
- Explain how the bonus program works to all employees so that there are no surprises when the holiday season comes. Detail the bonus program in the employee handbook, including things such as how the bonus is calculated, what employees can expect to receive, when they might have the bonus by and any conditions under which bonuses will not be offered.
- Because bonuses can serve as major morale boosters, don't eliminate bonuses without giving employees plenty of notice. After all, we saw how that turned out in "National Lampoon's Christmas Vacation."
Key takeaway: If you give holiday bonuses, make sure you distribute them to all employees, and don't call them "Christmas bonuses." Explain how the bonus program works, and if you plan to eliminate bonuses, tell employees well in advance.
What is an average holiday bonus?
There is no average holiday bonus, because they vary so widely among organizations. Many companies have moved away from cash bonuses: According to a survey from Bank of America, only 29% of employers planned to offer cash bonuses in 2019.
If companies do offer cash bonuses, they also vary widely in how they award them and how much they give. Some businesses choose to give an employee a percentage of their salary, whereas others award a small, flat amount, like $50 or $100, with the amount sometimes varying based on the business's performance that year. Some employers base their bonuses on how long an employee has been with the company or their yearly performance.
"I pay my bonuses out based on two factors: the employee's overall performance review and the number of years the individual has been with the business," said Laura Fuentes, operator at Infinity Dish. "I start annual bonuses at a minimum of 2% for the first year and max out at 6%."
Key takeaway: For monetary holiday bonuses, the amount varies depending on the business and the industry and can change from year to year.
How are holiday bonuses paid out?
Monetary holiday bonuses can be paid in a variety of ways. For example, you can provide a bonus as a stand-alone check or build it into your employees' regular paychecks. You can also give physical gift cards or certificates, but keep in mind that these are also taxable by the IRS. It might be a good idea to work with your payroll provider or accountant to make sure your bonuses are properly taxed and aboveboard.
Again, typical methods tend to vary based on your business and industry.
"In some industries, such as finance, bonuses are closely tied to employee performance and can vary dramatically within and between teams," said Andrew Schrage, CEO of Money Crashers. "Elsewhere, all employees of the same rank receive the same bonus. Amounts can vary from token-sized (think $25 or $50 gift cards) to amounts greater than the employee's total regular compensation. The latter is more common among highly compensated executives and financial professionals."
Key takeaway: Holiday bonuses can be given as stand-alone checks, additions to regular paychecks or gift cards, among other methods. Consult an accountant or payroll specialist to ensure you're taxing bonuses properly.
What are the benefits of giving holiday bonuses?
Holiday bonuses have many benefits for both your employees and your business.
Increased morale
The biggest benefit of giving holiday bonuses is that it makes people happy. A holiday bonus, whether it's a large check or a couple of extra days off, shows employees that you are thinking about them and consider them valuable to the company.
Bonuses also ensure that employees are rewarded for their hard work, which decreases the possibility of burnout. Happier employees are more likely to stay with your company over the long term, decreasing costly turnover.
Higher engagement and productivity
When employees are happy, they're often more engaged and productive. A 2019 study by Oxford University found that happy employees are 13% more productive, and a good way to make them happy is through extra compensation or other rewards. Studies also have shown that engaged employees produce better work.
If you choose to tie bonuses into yearly performance or goals, employees can be highly incentivized to hit those goals throughout the year. This can also help boost your company productivity and performance even outside of the holidays.
Key takeaway: The benefits of giving holiday bonuses include better morale, higher engagement and increased productivity.
How are holiday bonuses taxed?
Because holiday bonuses are considered compensation, they are taxed. However, bonuses are taxed at a different rate than an employee's salary on both the state and federal levels, according to TurboTax.
"Like regular payroll, bonuses are subject to income tax, Social Security and Medicare excise taxes, and Federal Unemployment Tax (FUTA)," said John Strohmeyer, proprietor of Strohmeyer Law. "But unlike regular payroll, bonuses are supplemental wages, which are generally subject to the mandatory flat withholding rate of 22% if the business has an annual payroll over $1 million. This rate may be higher than the employee's normal withholding rate, which can confuse employees."
Federal income tax
Generally, the IRS requires a 22% federal income tax on all supplemental income, including bonuses, according to American Express. As an employer, you may choose to include your employees' bonuses with their regular paychecks and withhold taxes on the total amount, which can result in a higher withholding. As such, it may be easier to give employees a separate bonus check.
State tax
Employees' holiday bonuses are taxed at whatever rate is required by state law. You can check your state's tax rates here.
FICA
The Federal Insurance Contributions Act (FICA) is a law that mandates a payroll tax on employees' paychecks and employer contributions to fund Social Security and Medicare. The first $127,000 of annual income is subject to this tax, so your employees' bonuses will be subject to this tax if they have not yet hit that amount.
Key takeaway: Holiday bonuses are subject to federal and state income tax, as well as FICA tax, and withholding may be higher when you include bonuses in employees' paychecks than when you give separate checks.