Is it worth your company’s time to invest in employee incentive programs? As it turns out, motivating employees to perform their duties is a simple way to help maximize the business’s profits.
A study sponsored by the International Society for Performance Improvement determined that an incentive program can "boost performance by anywhere from 25 to 44%, but only if conducted in ways that address all issues related to performance and human motivation." Employee incentives are generally broken into three types:
- Cash and non-cash incentives
- Rewards and recognition
However, giving out incentive prizes isn’t always as simple as writing a check. Below, we dive deeper on the types of employee incentives and how those affect payroll and tax withholdings for employees and employers.
Want to learn more about how, exactly, to build an employee incentive program? Read our free guide here.
Types of Employee Incentives
One of the most popular incentives, business owners often use performance bonuses to increase production by either individual employees or teams. Sales bonuses may be awarded when a salesperson or a sales team surpasses certain goals.
Incentive programs can boost performance by anywhere from 25 to 44%
Take note that all cash bonuses are added to an employee’s wages. That’s because the IRS defines cash bonuses as “non-discretionary bonuses.” As such, they must be included in an employee’s wages when calculating overtime.
For instance, if an employee earns a $500 bonus for exceeding his production goals over a four-week period, then that $500 bonus must be divided by four, and $125 allocated to each of the weeks during that four-week period.
If the employee worked overtime during any of those weeks, the employee’s overtime pay must be recalculated for each of those weeks and the additional pay added to the employee’s wages. Bonuses are supplemental wages, so they must be added to the employee’s paycheck, and they are subject to tax withholding according to the supplemental wage withholding rules.
Learn how to motivate your employees with incentives, bonuses, and awards with our eBook.
2. Prizes and Awards
Prizes are a great way to reward employees for their performance. Employers may reward individuals or teams that meet certain goals, or use awards to show employee appreciation. Such awards or prizes are always taxable income to the employee unless they are specifically excluded by law.
For instance, the following awards and prizes must be included in an employee’s wages:
- Cash awards or prizes: cash equivalent awards, such as savings bonds or gift certificates.
- Non-cash recognition awards for job performance, unless the award qualifies as a de minimus fringe benefit.
- Non-cash prizes won by employees from random drawings at employer-sponsored events.
- Awards for performance, such as outstanding customer service, employee of the month, or highest productivity. Since the purpose of most awards or prizes is to motivate employees, many employers may feel that requiring an employee to pay taxes on an award or prize is counterproductive. In such cases, the employer may choose to pay the employee’s share of the taxes. However, any taxes paid on behalf of the employee become taxable income as well.
3. Non-Cash Prizes
Some retailers pay their salespeople solely on a commission basis for products sold. They may offer incentives for salespeople who exceed quotas or for selling the most goods during a specific period of time.
Such prizes receive special treatment. Although the fair market value of the prize must be included on Form W-2 as taxable income, employers are not required to withhold federal income taxes from such prizes. However, social security and Medicare taxes must be withheld, and the prize is still subject to the federal unemployment tax.
How Justworks Can Help
Giving rewards and recognition is a great way to boost employee motivation. But when it comes to understanding payroll taxes for those awards, things can start to get confusing.
Justworks helps with administering payroll and related taxes, along with giving your team access to quality benefits like medical, dental, and vision. You can also award an unlimited number of bonuses on Justworks platform — we won’t charge extra for those types of payments. You can learn more about us here.
This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, legal or tax advice. If you have any legal or tax questions regarding this content or related issues, then you should consult with your professional legal or tax advisor.