Category Archives: Tax Withholding

Winning the Lottery, What is the Best Payment Option?

2015_05_20 Lottery2Did you win the lottery? If you are reading this, I will assume you did. You are asking yourself whether to take the lump sum or the 20 year payout option. Our Weymouth office is on the opposite end of Columbian Street Lottery office so we get more than our fair share of lottery winners around our office. To be fair, most are lost and looking for directions.

Lottery Payment Options

If you won a large sum, say $1M or more, you have the option of taking a lump sum or a 20 to 30 year payout on your winnings depending on the lottery and state involved. I believe Massachusetts offers a 20 year payout. The 20 years are guaranteed so if you die, someone else gets to spend it.

Lump Sum

The pros to the lump sum include a boatload of money right now! The cons are that you won’t get the full prize. You might get 60% of the prize money. In addition, you will be thrown into a higher tax bracket, This means a bigger chunk of money will go to taxes.

Annual Installment

In this case, if you take annual payments, you do not have a boatload of money burning a hole in your pocket. You will eventually receive the full prize. And, you may save a chunk on money on taxes.

Which one is better?

On smaller prizes, say $1M to $3M, you may be better off with the payment option. It is very easy to spend the lump sum of money and paint yourself into a corner financially with a house and grown up toys that are too expensive to maintain. They payment option can provide an income stream for many years after your prize. Additionally, because the annual payments are smaller, they will be likely be taxed at lower rates.

On larger prizes, say greater than $20M, you may be better off with the lump sum. Even the reduced amount is difficult to spend down and should be able to provide an income stream on its own. Because the annual payments are larger, the tax becomes more equalized between the lump sum and the payment options.

I crunched a few numbers on a $2M prize and a $50M prize. I also made the following assumptions: 5% rate of return, $20K spent per year on the small prize and $120K per year spent on the larger prize. On the $2M prize, the payment option is better after year 13. On the $50M prize, the payment option does not catch up until year 16. That being said, the greater the rate of return, the better the lump sum is.

Other Lottery Considerations

How old are you? Remember, you cannot take it with you.

Do you still want to work? Are you working for the weekend, do you have a meaningful career, or would you prefer neither?

How responsible are you? Are you going to make it rain like you are insane in the brain, or would Homer chide you as ‘Boring!’?

Do you have questions about Winning the Lottery?

WorthTax can help you work through all the IRS and State rules. If you have any questions, please call Alex at 781-849-7200 and make an appointment today.

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Why is My Bonus Taxed At Such a High Rate?

By: Alex Franch, BS EA

Were you lucky enough to get a holiday bonus, but noticed it was much smaller than you expected after taxes were taken out? Here’s an example of why this happens.

Let’s begin with a taxpayer (let’s call him Mr. Banks) who makes $96,000 annually, or $8,000 per month. Mr. Banks is married, with no dependents. At this rate, his employer (let’s call it the Dawes Tomes Mousley Grubbs Fidelity Fiduciary Bank or DTMGFFB) looks at the payroll tables and calculates a Federal Withholding of $1,133 per month. They withhold an additional $1,028 in payroll tax and Massachusetts income tax. So Mr. Banks has a take home pay of $5,839 every month from January to November.

Ho, Ho, Ho, Bonuses for Everyone at DTMGFFB

BonusDTMGFFB announces bonuses for everyone in December. Mr. Banks is expecting a $5,000 bonus but when he opens his paycheck, it has only gone up by $3,000. Why? When the computers at DTMGFFB see the Gross Pay for Mr. Banks as $13,000 for the month of December, they naturally assume that Mr. Banks is going to make $156,000 for the year ($13,000 x 12 months). DTMGFFB withholds $2,383 to the IRS and an additional $1,671 for payroll taxes and Massachusetts income tax. Mr. Banks has a take home pay of $8,946 in December. On the plus side, Mr. Banks can now grouse about the tax man at every holiday meal. Merry Christmas Mr. Banks.

What Should be Withheld if the Bonus Was Spread Out All Year Long?

If instead, Mr. Banks received a $5,000 raise rather than a December bonus. Mr. Banks would have a monthly income of $8,417 or $101,000 for the year. At this rate, DTMGFFB would withhold $1,238 in Federal tax plus $1,081 in payroll and Massachusetts income tax. Mr. Banks would have a take home pay $6,098 every month from January to December.

What Difference Does a Bonus Make?

In this case, not much, since Mr. Banks has virtually the same take home pay in both cases:

  • $5K Bonus: $5,839 x 11 months + $8,946 = $73,146
  • $5K Raise:  $6,098 x 12 = $73,176

But depending on the size of the bonus, the amount of your regular salary, and current IRS tax brackets, the difference could be far more than the extra $30 that Mr. Banks had to pay.

Luckily, that’s your money, not the government’s. Miscalculated withholding doesn’t change how much tax you actually owe, so the IRS will have to pay you back when you file your tax return.

Why the Bonus Instead of a Raise?

The company does not know how much it can afford until it is about to close its books in December. What I can tell Mr. Banks is, a spoonful of sugar helps the medicine go down.

Need Advice? Contact Us

Are you giving your employees a bonus or are you expecting one? Maybe you are not sure how to work through the tax implications of the bonus? Call Alex Franch at 781-849-7200,

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