Supplemental pay is extra payments made to an employee in addition to his or her regular salary. These include overtime, bonuses, commissions, and more.

If an employer provides supplemental pay, they may have to withhold taxes from these payments. And even if an employee  fills out  Form W-4 , they may still be subject to different withholding/tax rates for supplemental pay.

What qualifies as supplemental pay and what doesn't?

According to the IRS, the following are considered supplemental pay:

• Bonus
• commission
• Tips
• overtime pay
• Accumulated sick leave
• severance pay
• award
• award
• Paying for non-deductible relocation expenses
• back pay
• salary hike with retrospective effect

Please note, employers have the option to treat overtime pay and tips** as regular wages rather than supplemental pay.

The following are generally not considered supplemental pay:

• scholarship
• Paid Leave (PTO)
• Vacation pay

PTO and vacation pay are considered supplemental pay only when they are paid in addition to regular pay (for example, when unused PTO/vacation hours are paid as a lump sum). Otherwise, PTO and vacations are not supplemental; they replace regular pay as if the employee were still working as usual.

Employers are responsible for tracking and reporting supplemental pay. Employers must keep certain withholding rules in mind. These rules depend on:

• The amount of supplemental wages an employee receives during the tax year
• Whether an employee's supplemental pay is clubbed with his or her regular pay or distinguished from his or her regular pay

How supplemental pay will be taxed depends on how much your employee earns.

If your employee earns more than $1 million in supplemental wages during the tax year, the amount over $1 million will be taxed at  37 percent in 2020  , or the highest income tax rate applicable for that year.

This 37 percent is mandatory even if your employee  submitted Form W-4 claiming exemption from  federal income tax deductions .

If your employee does not earn more than $1 million in supplemental wages during the tax year, there are two circumstances you need to consider in order to make the correct tax calculation:

• If the employee's supplemental pay is combined with their regular pay and the amount of each type of payment (supplemental vs. regular) is not specified, you should withhold federal income tax as you normally would. In other words, you will refer to the employee's Form W-4 to deduct federal taxes.
• If you recognize your employee's supplemental pay as separate from his or her regular pay, you must do one of two things:

1.  Deduct  a one-time tax charge of 22 per cent (  applicable only  if you have deducted income tax from an employee's regular salary in the current or previous tax year) or whichever is the appropriate rate for the current year.
2. Use the employee's Form W-4 to reconcile their supplemental pay with their regular pay and deduct federal income tax from this total amount. Please note, this  only  applies if you pay your employee's supplemental pay  simultaneously with their regular pay  .

See IRS Publication 15  , pages 19-21,  for more information on exceptions and calculations .

As noted above, the federal supplemental payroll tax rate in 2020 is 37 percent for those with supplemental pay over $1 million and 22 percent for everyone else.

Supplemental wage tax rates vary by state. Employers  can reference Ernst & Young's latest state income tax chart on supplemental rates  . Keep in mind, some states follow tax thresholds based on the supplemental wage amount, so be sure to check your state's rules and regulations.