How Is Commission Taxed?

If you're in sales—for example, as an insurance agent—when you hear the phrase "sales commission," you probably see dollar signs. And for good reason! After all, you probably earn a commission when you meet or exceed a sales goal, which can be a great incentive to push yourself to close more deals.

But how much of that commission do you actually get to keep? By definition, sales commissions are supplemental wages—meaning that they're wage payments outside of your regular earnings. And because of that, it can be a little bit tricky to determine how this commission is taxed. 

From tax forms to employment types, let's take a deep dive into how sales commissions and taxes work—including how to determine how much of your commissions will ultimately go to taxes.

How Commission is Taxed as an Employee

The Internal Revenue Service (IRS) considers commissions to be supplemental wages—and, if you're an employee, there are a few different ways those wages can be taxed. 

• Taxed with regular pay: If your commission is included in your regular pay, then it's taxed at normal state and federal withholding rates. 
• Taxed at 25%: If you receive your commission in addition to/separately from your regular paycheck, then it's considered supplemental—and is subject to a 25% tax rate.

Depending on where you live, you may also be subject to state and/or local income taxes on your commission income.

Bonus tip: Skip the hassle and automate payroll with Hourly. The fully integrated payroll and workers' comp platform can calculate taxes on commission, deduct them from your employee's pay and submit payroll taxes—all with the click of a button. 

How Commission is Taxed as an Independent Contractor

For independent contractors, commission income isn't taxed differently than your regular income. Your total earned income—including commission income—is subject to a 15.3% self-employment tax. 

This includes a 2.9% tax for Medicare and a 13.4% tax for Social Security. In addition to federal taxes, you'll also need to pay state taxes on commissions, which vary by state. 

To find your state's tax structure, visit the .gov site for your state or quickly find your state's income tax rate here.

Do You Have to Do Taxes for Commissions?

Yes. Because the IRS considers commissions taxable wages, federal income tax, state income tax, and FICA taxes must be withheld from your commission check. 

As an independent contractor, you're responsible for setting aside funds from your earnings—including commissions—to use for tax payments. 

You can use form W-4 (available at the IRS.gov website) to apply income tax withholding to your pay.

As a contractor, you can also make quarterly payments (based on your estimated income) to avoid owing too much at the end of the year.

What to Do if You Can't Cover Your Commission Taxes

If you didn't put money aside during the calendar year to cover your tax liability come tax time, don't worry—the IRS has payment options to help you get up to date.

Those options include:

• Installment agreement: This is a long-term monthly payment plan option that's available if you owe $50,000 or less to the IRS. This is a good option if you do, in fact, owe under $50,000 and don't have the funds to pay your total debt right away. For example, if it was your first year selling insurance and you didn't put enough money aside for taxes—but now you know better for next year—this could be a good option.
• Offer in compromise: An OIC is a way to settle your entire tax debt by offering a lump sum that's less than your total tax liability. To be eligible for this option, you'll need to show that paying your full tax debt will cause financial hardship. This is a good option if, for example, you owe the IRS money—but were laid off from your job or are now unable to work due to medical reasons. 
• Currently not collectible: A CNC status will temporarily stop the IRS from trying to collect unpaid back taxes—but your tax debt will continue to accrue interest and penalties. Similarly to an offer in compromise, only certain people will qualify for CNC status—for example, if your income isn't high enough to pay for rent and other costs of living (and you can prove it). Unlike an OIC, though, your tax debt isn't settled—you're simply deferring making payments until you're financially able to. 

Does Commission Show Up On a W-2?

Sometimes. Whether your commission appears on a W-2 is determined by your employment status. If you fall into the category of a common-law or statutory employee, your commission will show up on your W-2. 

W2 or 1099? Different Ways Commissions are Taxed

Now that you understand the basics of how commission is taxed for employees and independent contractors, let's go a bit more in-depth on the different ways commission can be taxed.

Depending on what type of worker you are, commission can be taxed as either a W2 or a 1099. 

There are four types of employment that will impact the way your commission is taxed. This includes:

Common-Law Employees

Reported on W-2

If you perform services for an employer, whether that's part-time, full-time, hourly, or salaried—and they have control over how those services are performed (for example, when and where you work)—you're considered a common-law employee. Because you're an employee, you'll receive a W-2 and your commission earnings will be reported on your tax form. 

Statutory Employees

Reported on W-2

Statutory employees are workers who act as their employer's agent working on commission—like a workers' comp agent who earns a bonus every time they sell a new policy. Statutory employees are different from common-law employees because the service they provide is similar to that of an independent contractor, but they have Medicare and Social Security withheld by their employer (as a common-law employee would). If your primary business is selling workers' comp for one company, this makes you a statutory employee. In this scenario, your commission would also be reported on a W-2 form. 

Statutory Non-Employees

Reported on 1099

Statutory non-employees are similar to independent contractors since their regular income is dependent on their sales output (not an hourly or annual base salary). However, statutory non-employees only fall into three categories: direct sellers, licensed real estate agents, or companion sitters. If you fall into this category, your commission would be reported on a 1099 form.

Independent Contractors

Reported on 1099

As we said earlier, independent contractors are not employees, so their commission is reported on a 1099.

Is Commission Taxed at a Higher Rate?

If your bonus or commission is included in your ordinary income, then it will get taxed according to the standard payroll taxes and federal and state withholding. 

However, if you receive your commission in a way that's considered separate from your regular pay (for example, by getting a separate commission check), then it will get taxed at a rate of 25%—which could be higher than your typical tax rate.

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State income tax for commission payments also varies by state—for example, it's 5% in Massachusetts but 10% in California. 

If you're an independent contractor and your commission is paid without any tax withholding or deductions and reported on your 1099, you'll be subject to the 15.3% self-employment tax, which includes Medicare taxes and Social Security taxes. 

Considering that the FICA tax rate—which covers Medicare and Social Security—is 7.65% for regular employees, commission tax rates for independent contractors are higher.

Be Prepared for Tax Day

Whether you're new to the world of commission or have been earning sales commissions at your insurance job for years, it's important to have a solid understanding of the way commission is taxed—especially when tax time comes around. 

And now that you understand how your commissions are taxed, you're armed with the information you need to be prepared come tax day. 

And if you're still feeling unsure? It's never a bad idea to consult with a CPA to make sure you're paying accurate taxes on your commissions—and you won't be on the hook for any additional payments.

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