Rev. Rul. 66-294

The Internal Revenue Service has been requested to determine whether an employer may treat certain payments he makes to his employees as supplemental wage payments for purposes of the Collection of Income Tax at Source on Wages (chapter 24, subtitle C, Internal Revenue Code of 1954) and, if so, whether the employer may withhold Federal income tax on these payments at the flat percentage rate of 20 percent.

Section 31.3402(g)-1 of the Employment Tax Regulations relative to supplemental wage payments provides that an employee's remuneration may consist of wages paid for a payroll period and supplemental wages, such as bonuses, commissions, and overtime pay, paid for the same or a different period, or without regard to a particular period. The amount of income tax to be withheld by the employer on such supplemental wages depends, in part, on whether or not income tax has been withheld from the employee's regular wages. Under certain circumstances, an employer may withhold income tax on supplemental wages he pays to his employee at a flat percentage rate of 20 percent, without regard to the withholding exemptions the employee claims on his Form W-4, Employee's Withholding Exemption Certificate. (See Treasury Decision 6882, C.B. 1966-1, 244.)

The Service has been asked whether an employer may treat the payments made under the following circumstances as supplemental wage payments for income tax withholding purposes and, if so, how he should withhold income tax thereon.

Question 1 .-Employees receive at the end of approximately each 12 months' period a lump-sum payment known as a vacation and sick leave allowance. An employee receives this payment whether or not he has been absent from work because of vacation or illness. However, in the event of absenteeism because of vacation or illness, the employee receives no regular pay for the period of absence. May the employer treat the lump-sum payment as a supplemental wage payment?

Question 2 . An employer ordinarily includes any overtime pay due the employee in the employee's regular weekly wages and withholds thereon at the regular graduated rates. However, occasionally, due to a delay in posting on the employee's timecard, the employer issues a separate check for the overtime. May the amount of the separate check for overtime be treated as a supplemental wage payment?

Question 3 .-An employer gives an employee a retroactive pay increase. He pays the employee his regular wages and, in addition, gives the employees a separate check for the increase for the entire retroactive period. May the check representing the retroactive incheck for overtime be treated as a supplemental wage payment?

Question 4 .-An employer pays his employee at one rate when the employee is present and working but at another rate when the employee is absent because of illness. Dependent on the day his period of illness begins, the employee may receive two separate checks for a pay period: One for the period he worked, and one for the period he was absent. It is the employer's practice to withhold income tax from sick pay, regardless of whether it is excludable from the employee's gross income under section 105(d) of the Code. May the check representing the period of absence be treated as a supplemental wage payment?

Answer to Questions 1, 2, 3, and 4 .-In each of the above instances, the employer should treat the amount paid the employee as a supplemental wage payment. In determining the amount of income tax to be withheld, the employer should follow the guidelines in Revenue Ruling 66-190, page 457, this Bulletin, for withholding income tax on supplemental wage payments where an employee receives both regular wages and supplemental wages.

As the Service explained in Revenue Ruling 66-190, an employer, who pays both regular wages and supplemental wages to an employee and withholds income tax on the regular wages, may withhold income tax on the supplemental wages by either Method a or Method b.

Under Method a, the employer may withhold on the supplemental wage payment at the flat percentage rate of 20 percent, without allowance for any withholding exemptions the employee claimed on his Form W-4.

Under Method b, the employer may aggregate the supplemental wage payment with the regular wages paid or to be paid the employee in the same calendar year either for the last preceding payroll period or for the current payroll period, determine the income tax to be withheld as if the aggregate amount were a single payment, subtract from the amount of income tax so determined the income tax already withheld or to be withheld from the regular wage payment, and withhold the remaining tax from the supplemental wage payment.

If the employer makes a supplemental wage payment to an employee and has not withheld on the employee's regular wages (as, for example, where an employee's withholding exemptions exceeded his wages), then he must use Method b, so that the employee will receive the benefit of the withholding exemptions to which he is entitled on his Form W-4. Thus, the employer must aggregate the supplemental wage payment with the regular wages paid or to be paid in the same calendar year either for the last preceding payroll period or for the current payroll period and withhold income tax thereon at the regular graduated rates as if the aggregate of the supplemental wages and the regular wages were a single payment for the regular payroll period.