Bonuses are a common way to reward an employee’s achievements or loyalty.
But are they a good idea for employers to offer their employees, and what are the tax implications?
This article looks at all aspects that an employer should consider when deciding on whether to offer a bonus.
Here’s what we cover:
Are bonuses a good idea?
Before getting into the nitty gritty of the financial implications of offering bonuses, an employer should firstly consider whether they will be beneficial to the company.
Peter Cosgrove is managing director of insights company Futurewise and he’s formerly a managing director of CPL recruitment company.
He’s come across multiple bonus schemes during his career. Fundamentally, he sees bonuses as a good thing – but there are ifs.
“Bonuses are a good way to ensure a job is done better, more efficiently, or even faster,” says Cosgrove. “If bonuses are structured correctly, they can be a great motivator and a great way to retain your talent.
“Bonuses are also a way of showing appreciation to your staff.”
However, it’s not as simple as that.
A poorly constructed scheme can discourage the very behaviour it is meant to incentivise.
If bonuses are linked to performance, the key performance indicators (KPIs) must be well thought out – Cosgrove has seen multiple examples where this has not been the case.
For instance, he came across a call centre that incentivised its employees to answer as many calls as possible, with the upshot being that certain employees hung up on calls if they were going on too long and logged them as accidental hang ups.
Thought must also be given to how bonuses will affect the overall company.
Cosgrove says: “If the bonuses are individual and not team based, you can have unwanted competition within a team.
“While this may improve one person’s performance, it can have a detrimental effect on the team or even another team within the company.
“An example of this would be sales people selling what cannot be delivered on time by the operations team.”
The type of bonus should also be considered.
For example, giving employees shares in the company may encourage your employees to stay for a number of years, so it can act as a retention strategy.
Meanwhile, a bonus linked to profit can help a company that’s looking to grow.
Tax implications of bonuses
But what about tax?
Tax implications of bonuses need be taken into account. Bonuses are taxed and are regarded as part of an employee’s pay.
This means an employee on the higher marginal rate of 40% will end up paying about 52% back to the tax collector, when income tax, USC (Universal Social Charge) and PRSI (Pay Related Social Insurance) are taken off.
There’s also a charge for the employer, with employers potentially paying up to 11.05% PRSI, depending on the employee’s earnings.
So, in reality, while bonuses can seem very enticing, when all the charges are added up, the net benefit can be considerably diluted.
6 ways to reduce the tax burden
However, there are a number of ways to lessen the tax burden, and Taxback.com has outlined the main options available.
1. Small Benefit Exemption Scheme
Under the Small Benefit Exemption Scheme, you can gift your employee up to €500 in value, tax free, each year and there is also no PRSI liability for the employer.
However, the benefit can’t be in cash.
The scheme is a popular way of giving end-of-year bonuses to employees, with a gift card or supermarket vouchers being particularly popular.
2. Pension contributions
Another way your employees can avail of tax-free payments is through pension contributions.
Instead of opting for a bonus, an employee could bump up their pension with Additional Voluntary Contributions to their occupational pension, Personal Retirement Savings Accounts or Retirement Annuity Contracts.
Employees can get income tax relief for pension contributions of up to 40%.
The relief is subject to two main limits: an age-related earnings percentage limit and a total earnings limit.
3. Salary Sacrifice Arrangement
For a Salary Sacrifice Arrangement, an employee forgoes the right to receive part of his or her salary and, in return, the employer provides a benefit of a corresponding amount to the employee.
Schemes that fall under this arrangement are:
4. Cycle to Work Scheme
Under the Cycle to Work Scheme, an employer can pay upfront for a new bicycle (including bicycle accessories) on behalf of the employee and the employee then repays the cost in regular instalments from their gross salary.
The scheme applies to bikes and equipment up to the value of €1,250 and for pedelecs or e-bikes and related safety equipment up to the value of €1,500. And an employee can avail of the scheme every four years.
The benefit for the employee is the repayments come out of their salary before tax, USC and PRSI are deducted.
This means that an employee on the highest rate of tax will save almost half of the cost of a new bike.
The employer also saves on having to pay up to 11.05% PRSI.
5. Commuter tickets
There are tax savings to be made with a bus, rail or ferry travel pass. The scheme is operated by:
- Dublin Bus
- Bus Éireann
- Irish Rail
- Approved transport providers.
As an employer, you can provide your employee with a tax saving commuter ticket and save on PRSI, while your employee won’t be charged income tax, PRSI and USC on the price of the ticket.
6. Shares under the Approved Profit Sharing Scheme
This is the most lucrative Salary Sacrifice Arrangement.
Under the Approved Profit Sharing Scheme (APSS), an employer can give an employee shares in the company up to a maximum value of €12,700 tax free per year.
Shares held for three years may be sold without any income tax liability for the employee, though Capital Gains Tax may apply at a rate of 33%.
The employer saves on having to pay up to 11.05% PRSI.
Practically all companies qualify, whether private or public, though there can be difficulties for private companies in terms of share valuation, etc.
Additional schemes to be aware of
There are two other types of Revenue-approved employee share schemes: Employee Share Ownership Trusts (ESOTs) and Save As You Earn (SAYE) schemes.
It’s worth pointing out that they’re not classified as Salary Sacrifice Arrangements.
Shares awarded under an SAYE scheme are also exempt from income tax and if the ESOT is used in conjunction with an APSS, then those shares are also exempt from income tax.
You can go to the Revenue website to learn more about these schemes.
Bonus implications for payroll
You can add the bonus to the employee’s pay or you can record it separately and the bonus tax must be deducted from the employee earnings.
If the bonus falls under the Small Benefit Exemption Scheme, there’s no need to include it in employee’s pay and it will be recorded as a fully deductible expense on the company’s accounts.
For tax reduction payments, using payroll software that’s integrated with Revenue makes these tasks very simple.
For example, with the Cycle to Work Scheme, enter the cost of the bike on the employee’s payroll record and establish weekly or monthly deduction amounts (depending on payroll frequency), note the start and finish dates, and then process payroll and submit to Revenue as normal.
Final thoughts: Other ways to reward employees
One advantage of offering bonuses is that they’re flexible and when times are tough, it’s easier for an employer to cut bonuses rather than salaries.
However, if a company cannot afford to pay bonuses, Cosgrove points out that there are other ways to reward employees.
Training programmes, mentoring or giving employees cutting-edge projects to work on are just a number of things that can keep employees motivated.
Alternatively, the latest company car, phone or laptop can be a draw for employees.
And for those businesses whose employees are older or have children, health insurance and an occupational pension can be much more enticing than a bonus.
So, before making the commitment to offer bonuses, it’s worth considering all the implications first.
Editor’s note: This article was first published in February 2022 and has been updated for relevance.
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