Taxes work a little different on relocation bonuses then your other payments. It is considered to be a tax gross-up.
This means the company awarded you pay above your normal salary and you are not responsible for taxes on the extra money. This is entirely legal but must be done properly to avoid an audit.
It is important for both the company and the employee to thoroughly understand the process as any mistakes made during the process could have legal or tax ramifications on both parties involved.
Different Methods of Taxing Relocation Bonuses
There are a few different methods popularly used to assess the amount owed on extra payments like this: Gross up, Inverse, and True Up.
Each is beneficial in certain ways, and a tax professional is capable of advising you on which is the best choice in your circumstances.
The best thing to do is to verify the authenticity of all information reported. If there are any mistakes made on any of the forms, it can cause tax problems for the company and the employee or received the extra pay. Sometimes they might even have to amend their W2 form.
You can avoid any of these negative consequences by going through the process slowly and double-checking your work for accuracy. As long as there are no inconsistencies of mistakes on the forms, you complete it will be accepted.
Gross-Up Tax On a Relocation Bonus
The Gross-Up tax on a relocation bonus method is the quickest way to calculate the amount of tax owed on bonus payments for a corporation. Most of the time, depending on the company’s size, the accounting department will have a flat percentage rate of either 25 or 35 percent for the gross-up value.
Take this percentage and multiply it by the amount If the bonus payment. The amount you receive is the result of that equation is your gross-up amount. This will also be sent to the employee to cover their taxable portion of the bonus wages. It’s also possible to calculate this value using the true-up or inverse methods.
The inverse method is more accurate but much more time-consuming. You need to figure out the employees’ tax rates at the federal, state, and local levels.
Then you take this rate, and you multiply it by the bonus payment amount. Round up the total you get f this result, and that is the gross-up payment you should send to your employee for their total tax liability.
If there are no state or local taxes, it could be easier and more accurate to use this method then the gross-up method. That is because you will only need to look up their federal tax rate and not all three different ones.
True Up Technique
The true-up technique calculates the amount of tax owed on the bonus payment at the time of the payment and at the end of the year.
This is the only method that gives you one hundred percent accurate results. If the worker entered a new tax bracket by the end of the year, their tax liabilities would have changed.
You can then go ahead and reimburse them any extra amount they need for the rest of their gross-up payment. This would cover their entire tax liability with one hundred percent accuracy.
It is also the most time-consuming method because you have to wait until the end of the year for the second calculation. If you are concerned about making any mistakes on taxes, it is the method you should use as it is the least likely to produce significant errors in the final result.