Salaries with bonuses or commissions are offered at a majority of businesses, according to CNN. It can be tempting to use your bonus to treat yourself, like splurging on a luxury item or vacation. When you're first starting to save, save up a big pile of money in a mutual fund and when you look up and you've got $200,000 or so in there, then you run over and buy a little rental house or something if that's.

We think it's important for you to understand how we make money. It's pretty simple, actually. The offers for financial products you see on our platform come from companies who pay us. The money we make helps us give you access to free credit scores and reports and helps us create our other great tools and educational materials.

Compensation may factor into how and where products appear on our platform (and in what order). But since we generally make money when you find an offer you like and get, we try to show you offers we think are a good match for you. That's why we provide features like your Approval Odds and savings estimates.

Of course, the offers on our platform don't represent all financial products out there, but our goal is to show you as many great options as we can.

This article was fact-checked by our editors and CPA Janet Murphy, senior product specialist with Credit Karma Tax®.

You’ve worked really hard to earn your bonus — congratulations!

Of course, any time you receive income, there are potential federal tax implications. Your bonus is no different. That said, you might be able to take some steps that will help minimize any tax on your bonus — just like on your other income.

Bonus basics

The IRS considers cash bonuses “supplemental wages,” which means you could have to pay income tax on it, like you do on your regular salary or hourly wage.

Checking Account Promotion

Your employer will take the taxes on your bonus out of your paycheck for you, so you don’t have to figure it out on your own. If your employer pays it to you as a separate payment from your normal paycheck or specifies it as a separate line item on your normal paycheck, it will hold back 22% of the cash to go toward your tax bill (regardless of your tax bracket).

But if it’s combined with your regular paycheck in one lump sum, it will withhold at the same tax rate it does for the rest of your regular income, which depends on your tax bracket.

In either situation, wouldn’t it be nice if you could keep as much of your bonus as possible? Let’s explore some actions that might be able to help you do just that.

Pick your withholding rate

How your employer handles your bonus can make a big difference in how much tax you’ll pay on it.

If you are in a tax bracket lower than 22%, having your employer treat your bonus amount as a separate payment would mean paying tax on it at a higher rate. In that scenario, you might be better off if your employer includes your bonus with your regular pay so that you pay less tax.

Conversely, if you’re in a higher tax bracket, 22% may be a lower rate than what you pay on your regular wages. In that case, you’d come out ahead by having your employer treat your bonus as a separate payment, so that you pay less tax on it.

There’s a $1-million cap to those rules though. If your supplemental compensation for the tax year exceeds $1 million, your employer should withhold any amount up to $1 million at 22% but then withhold 37% (or the highest rate of income tax for the year) on the amount exceeding $1 million.

It’s up to your employer how to handle tax withholding on your bonus, but there’s probably no harm in asking to take the route that will minimize your tax. And don’t forget that no matter how your employer treats your bonus, you’ll still have to pay Medicare and federal unemployment tax on that amount.

Offset the bonus tax with deductions

Deductions allow you to reduce your taxable income for the year, something that could reduce your tax liability and help you owe less at tax time.

For example, if you earn a $5,000 bonus at work and can claim a $5,000 deduction, then you essentially would cancel out the tax impact of that income. In other words, you could effectively earn your entire bonus, tax-free, by taking a qualifying deduction for the same amount (or more) than your bonus.

Donate the money to charity

If you don’t need the cash and are really passionate about a certain cause, another option is to donate the money to an eligible charity. The charitable deduction is a popular tax break.You can typically deduct donations of up to 60% of your income for a given year (that’d be a huge bonus!).

Before you hand over your bonus, you’ll first need to make sure that the charity is indeed eligible to receive tax-deductible charitable donations in order for you to claim it as a deduction. You can check the IRS’s website for groups that are eligible.

Most taxpayers get a choice in how to take deductions on their federal income tax return. You can either tally up all the individual deductions you’re eligible for and “itemize” your deductions, or you can take the “standard” deduction for your filing status.

FAST FACTS

What are the standard deductions for 2018?

Here are the standard deductions for 2018.

● Single, or married filing separately — $12,000

● Married filing jointly, or qualifying widow or widower — $24,000

● Head of household — $18,000

Learn more about the standard deduction here.

These standard deductions are higher than in previous years because of the passage of the Tax Cuts and Jobs Act in 2017. Experts estimate that because of the higher standard deduction, only 10% of filers will be eligible for a smaller tax bill when opting to itemize their deductions.

This is an important point, because if you choose to take the standard deduction, the IRS doesn’t allow you to claim certain itemized deductions, like charitable donations. However, there are a few exceptions, which we’ll note below.

Mitigate the bonus tax with contributions

Traditional IRA, SEP IRA or your workplace 401(k)

Did you know that the Social Security Administration itself expects the fund to run dry by 2037 unless significant changes are made? Putting as much as you can into retirement savings now could mean that when you retire, Social Security might be the icing on the cake, rather than the main course.

For our purposes, another great benefit of contributing to certain retirement accounts — like a traditional IRA or employer-sponsored 401(k) — is that you can generally take a tax deduction for contributions to your account, up to the annual limits. Even better, you can still take this deduction even if you opt for the standard deduction.

Additionally, the total amount you can contribute to all your retirement plans is $18,500, or $24,500 if you’re 50 or older.

Health savings accounts

If you carry a high-deductible health insurance plan (one with at least a $2,700 deductible for families, or $1,350 deductible for individuals), you are allowed to save up for qualified health costs within a special type of tax-advantaged account: an HSA (or health savings account).

You can save for future medical bills and write off the same amount you save on your taxes (even if you opt for the standard deduction). Tax savings and money for health expenses: It’s a win-win scenario.

For 2018, you can contribute to your HSA — and deduct from your taxes — up to $6,900 for a family, or $3,450 if you’re an individual.

Ask your employer for workplace perks instead

Finally, you can consider asking your employer to reward you with some kind of nonmonetary workplace perk instead. Think about what you’d really like in the workplace.

● More paid time off
● A dedicated parking space
● A partial work-from-home arrangement
● A raise

These things can serve as a reward without requiring you to pay tax on a bonus. But be careful what you ask for — the IRS considers fringe benefits taxable, in which case they’re taxed in the same way as supplemental income. Check out IRS Publication 15-B for a list of fringe benefits that aren’t taxed.

Bank Account Sign Up Bonus

Bottom line

While bonuses can really make your day, paying taxes on them can also put a damper on the fun. Still, count yourself lucky — earning too much income is a good problem to have! And getting a bonus doesn’t mean you can’t also get a tax refund, depending on your tax situation.

Remember, though, your employer will take federal withholding taxes out of your bonus for you, which could help reduce the risk that you’ll end up facing a huge tax bill come Tax Day. But if you’d still rather keep as much of your bonus as possible, these steps may help you keep a little more of your reward for working hard.

Relevant sources: IRS Publication 15, Employer’s Tax Guide IRS Notice 1036, Percentage Method Tables for Income Tax Withholding IRS: Credits and Deductions for Individuals The Tax Cuts and Jobs Act of 2017 IRS Tax Exempt Organization Search IRS Publication 526, Charitable Contributions IRS: Itemizing vs. Standard Deduction: Six Tips to Help You Choose IRS: Steps to Take Now to Get a Jump on Next Year’s Taxes State of New Jersey, Department of Education Social Security Administration, Office of Retirement and Disability Policy IRS: Retirement Topics – IRA Contribution Limits IRS: IRA Deduction Limits IRS: Retirement Topics – 401(k) and Profit-Sharing Plan Contribution Limits IRS: How Much Salary Can you Defer if You’re Eligible for More than One Retirement Plan? IRS Revenue Procedure 2017-37 IRS Publication 969, Health Savings Accounts and Other Tax-Favored Health Plans

A senior product specialist with Credit Karma Tax®, Janet Murphy is a CPA with more than a decade in the tax industry. She’s worked as a tax analyst, tax product development manager and tax accountant. She has accounting degrees and certifications from Clemson University and the U.S. Career Institute. You can find her on LinkedIn.

Related Articles

For many of us, bonus season sparks these big ideas of purchasing a new watch, going on vacation, or buying a new car. While I’m the first to admit that I enjoy all of the above, and truly believe that rewarding myself for a job well-done can help create a habit of continuing to excel, I still maintain that it’s crucial to spend intentionally, and to have a plan to make sure that you put yourself first.

‘Putting yourself first’ can mean many things. You could buy something really nice, or invest towards furthering your education, or take a course on a topic that you were always interested in. But putting yourself first also means taking care of future you.

So, today, I want to focus on a few ways that might not be first to your mind when you think about what it means to put yourself first.

Paying off bad debt

“A man in debt is so far a slave.” - Ralph Waldo Emerson

To start, you should use a portion of your bonus to get rid of any lingering credit card debt that you might have. Even credit card debt can stack up and seriously hurt your financial health. With many credit cards charging upwards of 15% in interest, it makes sense to get rid of any balances as quick as you can.

Bonus Money For Essential Workers

Stock up your emergency fund

Traditional advice says to have between 3 and 6 months of cash saved up for any emergency that life might throw at you. This could be anything from being laid off from work to the broken refrigerator that needs repair or replacement. Having enough cash to pay for these unforeseen events will alleviate the financial stress that can come with disaster or mishaps. Trust me, you’ll thank yourself later for having this in place and stocked up when you don’t need to worry about how you’ll pay for a medical bill or repair charge. So make sure to use some portion of your bonus to increase or establish your emergency fund. Also, you want to keep this in a very liquid account, such as a simple savings account. This is not money you want to be investing, as you might need to tap into it in just a moment’s notice.

Read more about building your emergency fund here.

Increase your retirement contribution

Remember me earlier talking about putting yourself first? Take that hard-earned cash, and make it work for future you. Bonus season is one of the best times of the year to add to your retirement goals, because that lump sum can accelerate the effect of compound interest that much more. When you’re selecting a retirement plan, don’t fall into a generic investment product. Take the time to find one that reflects your personal timeline and risk preferences. The worst thing you can do is to not have your investments in line with your risk level, because if you’re overly aggressive in your accounts, but in life you are more risk-averse you could find yourself worrying and losing sleep over it. Retirement is a long-term game that includes the ups and downs of the market, but rewards you for staying the course on your terms.

Put money towards your big life goals

Your debts are paid off, you’re comfortable with your emergency fund, and you’ve contributed a little more to your retirement plan. So now what? After knocking those off, and you still have more money to allocate, why not craft a plan and chase the other goals you’ve had in mind? Whether that’s saving for a downpayment towards a house or flat, or perhaps you always dreamed of starting your own business, these goals take significant amounts of money. This is a great time to create an action plan to figure out how to achieve them, starting with a little extra cash to give you that initial push.

Treat yourself and have fun

So, the first four topics may not have been the most fun. Receiving a bonus is a testament to a job well-done, and now is the time to reward yourself. Go and take a small portion (10-20%), and spend it on whatever you like. For some, it might be a new handbag, and for others, it might be the joy of giving back to the community, or taking a weekend trip. Whatever you fancy, treat yourself and others so that working hard for that next bonus is always a fun and rewarding journey.