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Employee Bonuses Vs. Profit Sharing; What’s The Difference?

 

Employee Bonuses Vs. Profit Sharing; What’s The Difference?

Christmas bonus

 

 

 

Every year a good number of businesses give their employees bonuses right around the first of the year, often right at Christmas time.   Other companies offer profit sharing, typically distributed around the beginning of the New Year, but after the business has had time to review their accounting and access true profits for the previous year.  It’s important for both businesses and employees to understand the difference between the two.  

 

Let’s define and look at some of the differences between a bonus and profit sharing. 

Employee Bonus:

Bonus vs profit sharingBonuses are compensation for employees for work performed; they are paid in addition to salary or wages.   Often business owners give out bonuses without any structured plan or objective method for determining the amount or even how the bonus can actually be earned.  Although typically given out around Christmas time, bonuses can be given out any time of the year.  

Bonuses are typically used and are a good way to recognize special efforts or performance by individual employees.   For example if an employee comes up with a good idea that saves the company a lot of money and or time, that employee might be given a monetary bonus as a reward.   The amount of the bonus is typically left up to the employer, but can also be based on some type of pre-established formula where the employee gets a certain percentage of the actual savings.

Bonuses are considered compensation if (per the IRS) they "arise out of an employment relationship or are associated with the performance of services." Bonuses are considered taxable to the employee and are considered an expense of doing business.  In most cases, bonuses are a tax benefit to the employer.

Profit Sharing

Profit sharing plan for remodelersProfit Sharing is an arrangement between an employer and an employee in which the employer shares part of its profits with the employee. The key difference between a bonus and profit sharing is that there must be profit before any is shared with the employee.  

As payment under a profit sharing plan, employees can be given stocks or bonds, or cash (cash profit sharing plan).  If the profit-sharing dollars are part of an employee's retirement plan (deferred profit sharing plan), they are received at retirement rather than now, and depending on the retirement plan they may be tax-deductible. There can be eligibility requirements for profit-sharing plans.  For example, the employee may be required to work for the company for a certain period of time before he or she can partake in profit-sharing.

Three Good and One Bad Reason to Offer Profit Sharing Rather Than Bonuses

 

 

Other Business Considerations:

Taxes on remodelersKeep in mind that depending on how a bonus or profit sharing is distributed the employer may incur additional costs over and above the dollar amount given to the individual employee.   Depending on the employment relationship the company has with the employee, the business may incur the expense of payroll related taxes, liability insurance and/or workers compensation insurance on the dollars paid to employees.   Its best to consult with your accountant regarding the total cost of offering a bonus or profit sharing plan before discussing with or offering either to employees.

Also, it’s a good idea to let employees know they too may have to pay payroll and income taxes on any bonuses or profit sharing they receive.

Need help?

If you’re looking to start a bonus or profit sharing plan at your remodeling business give me a call or shoot me an email.   I can help you develop a plan that works for your business as well as your employees.  Businesses that share profits often earn more profit as a result!

 

 

Comments

I would be interested in discussing bonus structures in that I will be offering bonuses this year after suspending them for a couple of years. I've thought of profit sharing but really didn't know the first step to take! Can anyone help me wade through the process?
Posted @ Sunday, December 02, 2012 5:32 AM by James Westring
I am interested to learn more about profit sharing plans for employees. Thanks.
Posted @ Sunday, December 02, 2012 7:30 AM by Jack Ryals
Give me both. 
If I do better than the average guy give me a bonus. 
If I really help you build your business on top of that give me some of the profit. 
If you don't want to do either then I will stay with you long enough to learn the business and become your competitor. 
Give me nothing and I am always looking for a good exiting time.
Posted @ Tuesday, December 04, 2012 2:21 PM by Paul Lesieur
A bonus that is based on merit is a great way to show an employee your appreciation. A one-time bonus of $1,000. is more attractive than two at $500. for most employees. It buys something nice or pays for a vacation. 
 
My first experiences of giving bonuses as a business owner were not always good. I made up a formula for so much profit on each project and a client satisfaction rating of A or B and some tricky adjustments based on level of responsibility. No one understood the formula or the path to get a bonus and everyone complained loudly the following year when we did not give a bonus.  
 
I now give bonuses as a psychological boost, a reward for working hard and making good decisions, but the amount is "what seems right". No formula and no promise of a next bonus on any particular schedule. 
 
Profit sharing seems to pull employees into the position of second guessing the owner's decisions regarding marketing, hiring, and spending. Their share might have been greater if the owner hadn't wasted money on such and such. Profit sharing might be better in an open book company where everyone knows the finances. 
 
I enjoy the feeling of being generous and appreciative so giving healthy bonuses toward the end of a good year is a win-win for me.
Posted @ Tuesday, December 04, 2012 3:04 PM by Hank Wall
In good years and not so good years, I have typically tried to give a bonus to all staff. It is part acknowledgement for their effort and part reward.  
 
I believe it is especially important to provide even a small bonus amount even in bad years. The way I look at it is that if it was a bad year for me, then it was also bad for my guys. 
 
Happy holidays ALL! 
Regards, 
Chuck
Posted @ Tuesday, December 04, 2012 3:31 PM by Raleigh Handyman
I find that bonuses work well for our medical practice as well. When times are good or bad, our employees enjoy even $50 extra in their pockets.. We are a small practice with 12 employees. Profit sharing can only come in the conversation if an employee is EXPENSE sharing!
Posted @ Friday, March 15, 2013 7:41 PM by Charlotte
Really Nice post!!
Posted @ Monday, March 03, 2014 3:37 AM by Alisha joe
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