Gross Up: What It Means for Employers

What it means in practice

Grossing up starts from the amount the employee should take home and works backward to the gross payment. It can be applied to a taxable payment such as a bonus, award, relocation payment or taxes an employer agrees to cover. The extra amount is not a side payment outside payroll. The General Instructions for Forms W-2 and W-3 (2026) say that if an employer pays an employee's income tax withholding, it should "treat the grossed-up amount of that withholding as supplemental wages" and report it in boxes 1, 3, 5 and 7. A gross-up therefore raises the employee's wages and the employer's own payroll tax cost, and what is left after withholding is the employee's net pay.

Why the math is circular. Publication 15-A (2026) explains the problem for Social Security and Medicare. If you pay your employee's Social Security and Medicare taxes without deducting them from the employee's pay, you must include those payments in the employee's wages for federal income tax withholding and for Social Security, Medicare and FUTA taxes. That increase "is also subject to employee social security and Medicare taxes," which "again increases the amount of the additional taxes you must pay." Simply adding 7.65% to a payment falls short, because the added 7.65% is taxed too. Publication 15 (2026) repeats the rule and points to Revenue Ruling 86-14 and Pub 15-A; the W-2 instructions cite Pub 15-A and Rev. Proc. 83-43 for the formula.

The IRS formula for employer-paid FICA. Pub 15-A says to divide the stated pay (what you pay without counting your payment of the employee taxes) by a factor equal to 1.0 minus the combined employee Social Security and Medicare rate for the year. For 2026 the factor is 0.9235. The result is the wage reported in boxes 1, 3 and 5 of Form W-2; box 4 is box 3 times 6.2%, and box 6 is box 5 times 1.45%. In the Pub 15-A example, Donald Devon pays Lydia Lone $500 for one week in 2026 and agrees to pay her share of the taxes: $500 / 0.9235 = $541.42 of wages, with $33.57 of Social Security tax and $7.85 of Medicare tax. Donald reports these as taxes withheld on Form 941 or 944 even though nothing came out of her pay, and he also owes the employer share. Lydia's weekly wages for FUTA and income tax withholding are $541.42. Pub 15-A cautions that this section does not account for an employer that chooses to pay the Additional Medicare Tax for the employee.

Employees near the 2026 wage base. Social Security tax applies only to the first $184,500 of wages in 2026, and Medicare has no wage base (Pub 15; IRS Topic 751). So the 0.9235 factor works only for stated pay up to $170,385.75 ($184,500 x 0.9235). Above that, Pub 15-A sets box 3 at $184,500 and box 4 at $11,439.00, then divides the stated pay above $170,385.75 by 0.9855 (1.0 - 0.0145) for Medicare. Its example: stated pay of $180,000 gives $9,614.25 / 0.9855 = $9,755.71, so Medicare wages are $194,255.71, Medicare tax is $2,816.71, and box 1 wages are $194,255.71 ($180,000 + $11,439.00 + $2,816.71) if income tax wages are the same.

Supplemental wage withholding sets the income tax rate. Publication 15, section 7, lists bonuses, commissions, awards, prizes, severance pay, back pay, retroactive pay increases and payments for nondeductible moving expenses as supplemental wages, and taxable fringe benefits and nonaccountable plan allowances follow the same rules. When they are paid or identified separately and the employer withheld income tax from the employee's regular wages in the current or immediately preceding calendar year, it may withhold a flat 22% ("no other percentage allowed") or use the aggregate method with the Pub 15-T tables. If it withheld nothing from regular wages in that time, it must use the aggregate method. Supplemental wages over $1 million in a calendar year are withheld at 37% without regard to Form W-4. Pub 15 (2026) says these rates remain 22% and 37% because P.L. 119-21 permanently extended the individual tax rates. Whatever method is used, supplemental wages are subject to Social Security, Medicare and FUTA taxes; see FICA.

The general gross-up formula. When every withholding on a payment is a flat percentage of the gross, the gross equals the target net divided by (1 minus the combined rate). This is algebra applied to the flat rates above rather than an IRS-published formula for income tax, but with only the 7.65% FICA rate it reproduces the Pub 15-A factor of 0.9235. It does not work cleanly under the aggregate method, because withholding then comes from wage tables rather than a single percentage (Pub 15, section 7).

Example 1: a $1,000 net bonus. A Remindax illustration. Assumptions: 2026; the bonus is paid separately; income tax was withheld from regular wages this year, so the 22% flat rate is available; year-to-date wages are under $184,500 and $200,000; supplemental wages are under $1 million; state and local tax, retirement deferrals and other deductions are left out. Combined rate: 22% + 6.2% + 1.45% = 29.65%. Gross: $1,000 / 0.7035 = $1,421.46. Check: income tax $312.72, Social Security $88.13, Medicare $20.61, total $421.46, leaving $1,000.00. The employer also pays its matching $108.74 of Social Security and Medicare tax, which, as in the Pub 15-A example, is not added to the employee's wages.

Example 2: above the wage base. Same $1,000 net bonus, but the employee has already been paid more than $200,000 in 2026. Social Security no longer applies, and Pub 15 requires withholding the 0.9% Additional Medicare Tax on wages over $200,000, with no employer share. Combined rate: 22% + 1.45% + 0.9% = 24.35%. Gross: $1,000 / 0.7565 = $1,321.88: income tax $290.81, Medicare $19.17, Additional Medicare $11.90, total $321.88. Applying Example 1's 29.65% rate here would pay $99.58 more gross than needed to reach the target.

Household and farm employees follow a different rule. A household employer may pay the employee's share from its own funds instead of withholding it. Publication 926 (2026) says those taxes "must be included in the employee's wages for income tax purposes" but "aren't counted as social security and Medicare wages or as FUTA wages," so there is no tax-on-tax loop. The statute, 26 U.S.C. 3121(a)(6), excludes from FICA wages an employer's payment of the employee tax for domestic service in a private home or agricultural labor. In the Pub 926 example, a $100 weekly wage with the employee share covered costs the employer $15.30 per payday ($7.65 for the employee share plus $7.65 for its own), Social Security and Medicare wages stay $100, and income tax wages are $107.65. These taxes apply once cash wages to a household worker reach $3,000 in 2026. Pub 15 gives a farm example: Gavrielle pays Dan $1,000 and enters $1,076.50 in box 1 but $1,000.00 in boxes 3 and 5. Pub 926 adds that income tax a household employer pays without withholding it is included in wages for income tax and in Social Security, Medicare and FUTA wages.

Relocation and moving payments. P.L. 119-21 permanently eliminates the exclusion for qualified moving expense reimbursements, except for active-duty Armed Forces members moving under a military order for a permanent change of station and certain intelligence community employees and new appointees (Pub 15, What's New). The W-2 instructions say all other employees have only nonqualified moving expenses and reimbursements, reported in boxes 1, 3 and 5 and subject to income tax withholding and Social Security and Medicare taxes. Because Pub 15 lists payments for nondeductible moving expenses as supplemental wages, relocation packages are a common place for a gross-up. IRS Topic 455 covers the military deduction side.

Expense reimbursements: accountable or not. Under Pub 15, an accountable plan requires employees to have paid or incurred allowable business expenses, substantiate them within a reasonable period, and return any excess. Amounts paid under it "aren't wages" and are not subject to income, Social Security, Medicare or FUTA taxes, so there is no tax to gross up. Pub 15 generally treats as reasonable advances within 30 days of the expense, accounting within 60 days and returns within 120 days. Payments under a nonaccountable plan, such as when receipts are not required or unused advances are not returned, are wages treated as supplemental wages, and the W-2 instructions report them as wages. Substantiated per diem allowances are covered by the same section of Pub 15.

Bonuses and overtime. Bonuses, including amounts paid for signing an employment contract, are wages subject to employment taxes (Pub 15, section 5), and Publication 525 tells employees that bonuses and awards are income shown on Form W-2. Wage-hour rules are a separate question. DOL Fact Sheet #56C says nondiscretionary bonuses, such as production, quality, attendance and safety bonuses or any bonus paid under a predetermined formula, are included in the regular rate of pay for overtime. A bonus is discretionary only if the employer keeps sole discretion over whether to pay it and how much until at or near the end of the period, and it is not paid under a prior contract, agreement or promise. The fact sheet's method starts from total compensation for the week: a promised $50 bonus to a $10-an-hour employee who worked 43 hours makes the regular rate $11.16 and adds $16.74 of overtime premium.

Reporting on Form W-2 and Form 941. Grossed-up amounts appear on Form W-2 as wages. For employer-paid employee FICA, boxes 1, 3 and 5 use the Pub 15-A formula, and the taxes go in boxes 4 and 6 as if withheld. For 2026, box 4 should not exceed $11,439 ($184,500 x 6.2%) (W-2 instructions). Pub 15-A says an employer paying the employee's portion is liable for timely depositing the increased taxes and must report the increased wages on Form 941 for the quarter paid, or Form 944 for the year.

Recordkeeping. Pub 15 says to keep all employment tax records for at least 4 years, available for IRS review, including the amounts and dates of all wage payments.

Where states differ. The federal formulas above leave out state and local tax, and states set their own withholding rules, so check your state tax agency. One example, California: the EDD's 2026 California Employer's Guide (DE 44) says supplemental wages paid at the same time as regular wages are treated as regular wages. If paid separately, the employer may compute withholding on the combined amount or withhold a flat 10.23% on bonuses and stock options or 6.6% on other types such as overtime, commissions, sales awards, severance and vacation pay. Example 3 (California illustration). Example 1's assumptions plus the 10.23% bonus rate, with State Disability Insurance and any other state items left out: 22% + 7.65% + 10.23% = 39.88%. Gross: $1,000 / 0.6012 = $1,663.34: federal income tax $365.93, Social Security $103.13, Medicare $24.12, California tax $170.16, total $663.34, leaving $1,000.00.

Questions employers ask. Is the employer's own FICA share added to wages? No. In the Pub 15-A and Pub 926 examples only the employee share is added; the employer pays its share separately. Where does a gross-up go on Form W-2? The W-2 instructions put grossed-up income tax withholding in boxes 1, 3, 5 and 7 as supplemental wages, and employer-paid FICA in boxes 1, 3 and 5. What does the employee report? Pub 525 says employer-paid Social Security and Medicare taxes are reported as taxable wages on the employee's return, except for household and farm workers, where they are not Social Security and Medicare wages. Can the 22% rate always be used? No: only if income tax was withheld from regular wages in the current or preceding year, and never on supplemental wages over $1 million (Pub 15). Confirm specifics with a qualified professional.

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