We all remember Clark Griswold’s excitement about his bonus check and grand pool plans. But what if he knew how to use his bonus wisely for an even better tax break? Bonuses can be tricky but working with tax professionals can help you maximize those cash windfalls. The team at Maggi Tax shares a few ways that you can efficiently and effectively use bonuses to reach your financial goals.
The IRS considers bonuses as “supplemental income” that can be withheld differently than a regular salary. Because of this, the IRS recommends employers use a flat withholding of 22% from all bonuses. Most follow that suggestion but there is also another way, the aggregate method. This approach adds the entire bonus to your paycheck and then withholds the combined amount at a normal income rate. This new amount suggests, that this is representative of what you typically make every paycheck, and could be higher or lower than 22%. This type of withholding can bump you into a higher tax bracket, creating an illusion that less is kept. However, the aggregate method’s “bump” may cause you to lose certain deductions and tax credits. Consult a tax professional to help you understand how your financial plans will be affected. With either method, there are a few simple recommendations that may help you preserve or even grow your bonus.
Make the most of multiple accounts. Depending on your income and if your spouse participates in a company retirement plan, you may be able to reduce your taxable income by contributing to a traditional or Roth IRA, a health savings account, or a flexible savings account. Most don’t realize that you can participate in a company plan while also funding a traditional or Roth IRA. Using a portion of your bonus towards these accounts allows for guaranteed growth.
Consider adding a portion (or all) of your bonus to a 401(k). For example, if you typically contribute 10% from every paycheck, withhold the same amount from your bonus to use as a contribution. Make sure to check with your employer’s rules because some companies do not allow employees to use bonuses towards 401(k) contributions.
Or if tax-deferred accounts are not your thing, try this. Create a “happiness annuity” by investing in a well-diversified portfolio that will produce a growing source of cash flow.
Whatever you choose, we are here for you. For over 30 years, Maggi Tax has guided Tampa Bay residents with all aspects of their financial well-being. Contact us here or call (727) 799-1701 to schedule your appointment today.