How Are Bonuses Taxed in Minnesota?

Bonuses are subject to various taxes, just like regular wages. Understanding how these taxes apply to bonus income is important for financial planning. This article clarifies the tax treatment of bonuses, covering federal, state, and other payroll tax considerations.

Federal Income Taxation of Bonuses

Bonuses are recognized by the Internal Revenue Service (IRS) as a form of supplemental wages. As such, bonuses are considered ordinary income, fully subject to federal income tax, just like any other earnings from employment. This combined income then determines which federal income tax bracket applies. It is a common misconception that bonuses are taxed at a flat, separate, or higher rate; in reality, they are taxed at the taxpayer’s marginal income tax rate, which is the rate applied to the last dollar earned. For instance, for the 2024 tax year, federal income tax rates for single filers range from 10% for income up to $11,600 to 37% for income over $609,350.

Employers are mandated by federal law to withhold federal income tax from all bonus payments. This withholding is an estimated payment of the tax liability, designed to ensure that taxpayers meet their obligations throughout the year rather than facing a large bill at tax time. The specific amount of tax withheld can vary depending on the employer’s chosen withholding method for supplemental wages, which aims to approximate the employee’s eventual tax burden. The final tax liability is always reconciled when the individual files their annual income tax return, and any over-withheld amount is refunded.

Minnesota State Income Taxation of Bonuses

Minnesota levies its own income tax on bonuses, treating them similarly to regular wages for state tax purposes. For individuals considered residents of Minnesota, all income earned, regardless of its source, is generally subject to Minnesota income tax. Non-residents who earn bonuses for services performed within Minnesota’s borders are also subject to Minnesota income tax on that portion of their income.

The state employs a progressive income tax system, meaning that as taxable income increases, a higher percentage of that income is subject to tax. For the 2024 tax year, Minnesota’s income tax rates for single filers range from 5.35% on taxable income up to $31,690, to 9.85% on taxable income over $197,380. The bonus will be taxed at the marginal rate corresponding to where it falls within the taxpayer’s overall state taxable income.

Employers operating in Minnesota are required to withhold Minnesota state income tax from bonus payments. This withholding serves as an estimated payment towards the employee’s annual state tax liability, helping to prevent large tax bills at the end of the year. The final state tax owed on the bonus and all other income is determined upon filing the annual Minnesota income tax return, at which point any over-withheld amounts are refunded.

Other Payroll Taxes on Bonuses

Beyond federal and state income taxes, bonuses are also subject to Federal Insurance Contributions Act (FICA) taxes. These taxes fund the Social Security and Medicare programs. Both the employee and the employer contribute to FICA taxes.

The Social Security component of FICA tax is 6.2% for both the employee and the employer, applied to wages up to an annual limit. For 2024, this wage base limit is $168,600. Once an employee’s cumulative wages for the year, including bonuses, exceed this amount, no more Social Security tax is withheld.

The Medicare component of FICA tax is 1.45% for both the employee and the employer, and unlike Social Security, there is no wage base limit; it applies to all earned income. Additionally, an Additional Medicare Tax of 0.9% applies solely to the employee’s wages that exceed certain thresholds ($200,000 for single filers, $250,000 for married filing jointly). Employers are responsible for withholding the employee’s share of FICA taxes and remitting both the employee and employer portions to the IRS.

How Bonus Withholding Works

The practical application of tax withholding on bonuses can sometimes lead to a misunderstanding that bonuses are taxed at a higher rate than regular wages. This perception often arises because of the specific methods employers use to calculate and remit withheld taxes from supplemental payments. It is important to distinguish between the actual tax rate, which depends on total annual income, and the withholding rate, which is an estimate.

For federal income tax, employers commonly use one of two methods for withholding on supplemental wages. The first is the percentage method, where a flat federal income tax rate of 22% is typically withheld from the bonus amount. The second method is the aggregate method, where the employer combines the bonus payment with the employee’s regular wages for a given pay period. The employer then calculates the income tax withholding based on this larger, combined amount. This approach can result in a higher amount of tax withheld from that particular paycheck, as it temporarily pushes the employee’s income into a higher withholding bracket for that pay period.

If too much tax was withheld through these methods, the taxpayer will receive a refund; conversely, if too little was withheld, they will owe the difference. Minnesota also has its own withholding rules for supplemental wages, which employers apply in conjunction with federal guidelines.