Employee withholding taxes can prove a complex issue for employers, especially when their employees earn a mix of regular wages and non-standard income known as supplemental wages. Strict rules and guidelines govern whether employers can combine both types of withholding into an aggregate amount for calculating the final withholding tax owed on such employees.
The Internal Revenue Service separates employee wages into two categories -- regular wages and supplemental wages. Regular wages include the amount paid through normal methods such as a salary or hourly wages. Supplemental wages include every kind of wage that falls outside standard parameters. According to the Watson Wyatt Insider, these wages may take the form of commissions, advances, lump-sum payments at the end of an employee’s service or special payment rates for illnesses or vacation time. Employers generally pay this withholding either at a flat rate of 25 percent or through the aggregate method. In the aggregate method of withholding, employers pay taxes on both regular and supplemental wages at the regular-wage rate.
To calculate employee withholding according to the aggregate withholding method, the employer adds the regular and supplemental wages together and simply uses the regular wage rate to calculate the entire amount of withholding tax from this total. The employee’s W-4 stipulates the rate the employer must use for this calculation. The employer subtracts any tax amount previously taken out of the regular wages as withholding, subtracting the rest from the supplemental amount.
Sometimes employers have no choice but to use the aggregate method of withholding instead of the flat-rate method. If the employer failed to withhold tax from the employee's regular wages in the previous tax year, or if the company payroll department does not separate regular and supplemental payments, the aggregate method becomes mandatory. Use of the aggregate withholding method, when allowable, depends on whether the employee received the supplemental wages and regular wages together or as separate payments, according to the University of Minnesota website.
The Internal Revenue Service has ruled on nine common scenarios to reduce confusion and help employers calculate their withholding taxes more easily and accurately. If the employee receives monthly commissions only, semimonthly advances against future commissions or irregular commissions of $1,000 or more, the employer must use the aggregate method. If the supplemental payments came in the form of signing bonuses, severance pay, a lump-sum termination payoff, vacation pay or sick pay, the employer may calculate these payments through either the aggregate method of the flat-rate method.