Your talent network sent you plenty of quality referrals, and you’ve acknowledged their efforts with bonuses and rewards. But there’s an important step you don’t want to miss — figuring out when and how to apply taxes to those payouts.
Here’s a quick overview of the tax implications of referral bonuses.
Are referral bonuses taxable?
The short answer is, generally, “yes.” Referral bonuses may indeed be subject to federal, state, and local taxes as well as social security and Medicare taxes. But it depends on how much referrers earn and whether or not they’re employees.
According to the Employer’s Tax Guide from the Internal Revenue Service (IRS), referral bonuses to employees are considered supplemental wages:
“Supplemental wages are wage payments to an employee that aren’t regular wages. They include, but aren’t limited to, bonuses, commissions, overtime pay, payments for accumulated sick leave, severance pay, awards, prizes, back pay, reported tips, retroactive pay increases, and payments for nondeductible moving expenses.”
So most bonuses, awards, and prizes employees earn for their referrals should show up on their W-2s. Small gifts and those that don’t have an obvious cash value, such as de minimis benefits, can be an exception to this rule.
Referrers who aren’t employees, however, aren’t off the hook. Their bonuses fall under miscellaneous income and may require Form 1099-MISC.
Processing referral bonuses
For employers and staffing agencies
There are two ways to withhold taxes for supplemental income:
- If you prefer to combine supplemental wages with a regular paycheck, you can withhold income tax for the total at your usual rate for that pay period.
- If you prefer to pay out supplemental wages separately, you can withhold a flat rate of 22% for totals less than $1 million. A higher 37% rate applies to any earnings beyond that $1 million mark.
Whichever method you choose, report these bonuses on Form 941 as well as the employee’s W-2.
Each non-employee you’ve paid $600 or more in prizes and awards over the course of the year should receive a Form 1099-MISC from your agency.
For employees and referrers
Employees will find their bonuses recorded on their W-2s.
Referrers who aren’t employees should look for a 1099-MISC form if they’ve earned more than $600 in rewards. This amount counts as additional income on their taxes for the year, and they’ll be responsible for paying any federal and state taxes that apply.
Only bonuses or rewards referrers receive within the year are taxable, not those that agencies promised to them but didn’t yet pay.
No one likes the idea of paying extra taxes, especially when they don’t expect to. So it might be wise for agencies to include applicable tax information when outlining their referral program. But these taxes shouldn’t discourage program participation — they’re only a small price to pay for the benefit of referral bonuses.
If you have additional tax advice regarding referral bonuses to share, be sure to let us know on LinkedIn.
FAQs
Are referral bonuses taxable? The short answer is, generally, “yes.” Referral bonuses may indeed be subject to federal, state, and local taxes as well as social security and Medicare taxes. But it depends on how much referrers earn and whether or not they're employees.
How should a referral bonus be taxed? ›
Since employee referral bonuses are considered supplemental wages by the IRS, these types of bonuses are subject to taxes. Companies will usually: Tax gross-up for the bonus amount. Gross-up means a company will pay an employee to offset additional taxes.
What is a typical employee referral bonus? ›
The average employee referral bonus is $2,500, but the payout should be more or less depending on the impact of the role and how difficult it is to recruit qualified candidates. Pro tip: If you decide to offer cash for your referral bonus, it's best to use a tiered system.
Are referral bonuses subject to self-employment tax? ›
In conclusion, referral bonuses are taxable income and must be reported on your tax return. As an employer, it's important to withhold the appropriate taxes and report the bonus on a Form 1099-MISC. As an independent contractor, you're responsible for reporting the bonus as income and paying self-employment taxes.
What is the referral bonus process? ›
Common referral bonus guidelines
Interview or offer: You may only receive the bonus if the referred employee gets an interview or gets hired. Employment length: The bonus may only apply if the hire stays with the company for an amount of time, usually between 90 days and six months.
How to avoid tax on bonus? ›
TurboTax Tip: To reduce your tax liability, you can contribute to your 401(k) or an IRA. If you expect to retire or have less pay in the next tax year, you can ask your employer to defer your bonus until that year begins so that it might be taxed at a lower rate.
Does a bonus need to be taxed? ›
Bonuses are taxable income, but the IRS considers them supplemental wages, which means taxes may be withheld on your bonus differently than they are on your ordinary wages. Employers can either tax your bonus at a flat 22% rate or use a more complex withholding calculation.
What is a fair referral bonus? ›
The employee referral bonus that you would offer for help hiring for this position would then be higher than that for an entry-level position because they provide more value to your team than the previous category; anywhere from $500 – $2,000 is a reasonable amount that will both incentivize your current staff to ...
What percentage of hires should be employee referrals? ›
Employee Referral Statistics 2024
According to a survey by Jobvite, employee referrals are the most effective way to fill job openings, with referred candidates hired at a rate of about 30% (compared to an average rate of 7% for job applicants sourced through other methods).
How do you incentivize employee referrals? ›
One of the most common and straightforward incentives for employee referrals and recommendations is to offer cash bonuses or gift cards for successful hires. This can be a powerful way to show your appreciation and recognition for your employees' efforts and contributions.
So, can you 1099 an employee for a bonus? No, you cannot. But you should always have access to a software tool that supports 1099 forms. With a 1099-supporting accounting software tool in your back pocket, you can rest assured that you're prepared for whatever business-related challenges come your way.
How do I write off referral fees? ›
Any cost you incur to promote your business is 100% deductible as advertising. Referral gifts DO NOT need to be branded. So, If you send a $50 Starbucks gift card to all clients who sent you a new paying client, that full $50 is an advertising expense. There you have it!
Is a referral fee a 1099-MISC or 1099-NEC? ›
Nonemployee compensation reported on Form 1099-NEC may include payment for services, including parts or materials, professional service fees, referral fees, commissions, benefits, prizes and awards for services by a nonemployee, and other types of compensation paid to nonemployees.
Does referral bonus count as income? ›
Are referral bonuses taxable? The short answer is, generally, “yes.” Referral bonuses may indeed be subject to federal, state, and local taxes as well as social security and Medicare taxes.
How much should an employee referral bonus be? ›
Determine your average referral bonus amount.
Typically this should be at-least $500 – $1,000 less than your calculated cost per hire – as referrals are a way to effectively reduce your recruiting costs.
What is a good referral bonus? ›
The best range I've seen is between $3k - $5k. However, I've also seen non-cash referral programs and referral bonuses such as paid trips, donations, or gift cards, which can be easier to absorb for company budgets that are tighter.
Why is my bonus taxed at 35 percent? ›
Since the IRS views bonuses as supplemental income, employers must withhold taxes on bonuses according to IRS regulations for supplemental income, which is a separate withholding calculation than your regular wage or salary pay.
Is a referral bonus considered a fringe benefit? ›
A work-life referral program is an employer-funded fringe benefit that provides work-life referral services to eligible employees.
Is a referral bonus included in regular rate of pay? ›
Referral bonuses generally aren't included in the regular rate of pay and so aren't included in overtime calculations, according to a recent Department of Labor (DOL) opinion letter. But some portions of a referral bonus could be included if the employee has a contractual right to the payment.
