Small Business Guide to Paying Holiday Bonuses

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 paid time off or, most commonly, a monetary payment. 

Holiday bonuses differ from year-end bonuses. With year-end bonuses, an employer typically considers the employee’s years of service, base pay or performance level. In contrast, holiday bonuses are usually distributed equally to all employees.

What are some tips for giving holiday bonuses?

If you’re considering giving holiday bonuses to your employees this year, it’s essential to keep the following points in mind:

• Refer to the bonus as a holiday bonus: Avoid connecting the bonus with a particular holiday unless you are a religious organization. Refer to it as a “holiday bonus” instead of a “Christmas bonus.”
• Distribute holiday bonuses equally: Ensure the bonus is doled out equally to every employee in your organization. Every employee should receive something, preferably the same as everyone else. Treating people equally can go a long way toward improving company morale and making employees feel valued.
• Consider holiday bonus alternatives: If you can’t give monetary bonuses, consider other gifts, like extra paid time off around the holidays.
• Explain the holiday bonus process: Explain to all employees how the bonus program works so there are no surprises during the holiday season. Detail the bonus program in the employee handbook, including how it is calculated, what employees can expect to receive, when they might receive the bonus and any conditions under which bonuses will not be offered.
• Don’t eliminate bonuses without ample notice: Because bonuses can serve as major morale boosters, don’t eliminate bonuses without giving employees plenty of notice. Employees may be counting on the bonus and react with disappointment and resentment.

What is an average holiday bonus?

The average cash bonus was $2,145 which is down 21% from the previous year. 

For companies who do offer cash bonuses, there are vast differences in how they award them and how much they give. Some examples include the following:

• Salary percentage: Some businesses choose to give an employee a percentage of their salary (often between 2 and 5 percent)
• Flat bonus amount: Some businesses award a small, flat amount, such as $50 or $100. 
• Business performance-based bonuses: Some businesses vary the holiday bonus amount based on the organization’s performance that year. 
• Employee performance-based bonuses: 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,” shared Laura Fuentes, operator at Infinity Dish. “I start annual bonuses at a minimum of 2 percent for the first year and max out at 6 percent.”

How are holiday bonuses paid out?

Monetary holiday bonuses can be paid in various 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. However, note that the IRS also taxes these bonus forms. It might be a good idea to work with your payroll service or accountant to ensure your bonuses are taxed properly and above board. (More on bonus taxes later.)

Bonus payout methods vary based on business type and industry.

“In some industries, such as finance, bonuses are closely tied to employee performance and can vary dramatically within and between teams,” explained 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.”

How many businesses offer holiday bonuses?

Just as every company operates according to its own procedures, companies also individually determine whether they want to award their employees holiday bonuses. A 2020 Bureau of Labor Statistics survey uncovered differences in holiday bonuses between companies with fewer than 100 employees and companies with more than 100 employees.

According to the survey, 9 percent of employees who worked at companies with fewer than 100 workers received holiday bonuses. However, companies with more than 100 employees were less likely to give their employees holiday bonuses. Only 3 percent of workers at these larger companies received a holiday bonus.

What are the benefits of giving holiday bonuses?

Holiday bonuses have many benefits for your employees and your business:

• Holiday bonuses can boost morale: The most significant benefit of giving holiday bonuses is that it’s a morale booster that makes people happy. A holiday bonus, whether 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.
• Holiday bonuses can reduce burnout: Bonuses also ensure that employees are rewarded for their hard work, which decreases the possibility of employee burnout. Employees who feel appreciated are more likely to stay with your company over the long term, decreasing costly employee turnover.
• Holiday bonuses can create higher engagement and productivity: Happy employees are often more engaged and productive and studies have shown that engaged employees produce better work. The Skynova survey revealed that 92 percent of employers who gave out bonuses reported improvements in employee productivity and retention.
• Holiday bonuses can incentivize employees: 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’s productivity and performance even outside of the holidays.

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.

“Like regular payroll, bonuses are subject to income tax, Social Security and Medicare excise taxes and Federal Unemployment Tax (FUTA),” explained 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 percent 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 percent federal income tax on all supplemental income, including bonuses. 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. Check your state’s tax rates to ensure accuracy.

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 $168,600 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.

A festive way to say ‘thanks’

Holiday bonuses can be a great way to express your gratitude toward employees, promote motivation and reinforce a positive work culture. Planning your bonus structures carefully well before the end of the year allows you to budget for them properly as well. This way, you can ensure a seamless and meaningful gesture that resonates with your employees long after the holiday season.

Shayna Waltower contributed to this article. Source interviews were conducted for a previous version of this article.