What Is a Gross-Up?

A gross-up is money added to a payment to cover the income taxes that the employee will owe on the payment.

A gross-up occurs when employees receive a cash benefit such as severance plans, relocation expenses, and cash bonuses. Another common scenario is when a company pays an executive’s relocation expenses and a gross-up to offset the expected income taxes owed on their payment and salary.

How does a gross-up work

Employees receive a gross paycheck amount (before taxes, retirement contributions, Medicare, and Social Security). After deductions, employees receive their net pay (also called “take-home pay).
When grossing up a payment, the desired net pay is calculated beforehand and employers increase the gross pay to ensure employees receive the desired net pay.

What types of compensation are most commonly grossed up?

Gross ups are usually applied to:

• Bonuses
• Severance payments
• Relocation expenses

Pros and cons of grossing up salary?

For the Employer

Pros

• It decreases employees’ tax burden, which can increase employee satisfaction and retention.
• It can help employees afford health insurance if the company doesn’t offer coverage.

Cons

• It takes a few steps to calculate
• It’s hard to offer this benefit when the company grows
• If used to help with health insurance costs, it can become more expensive than offering health insurance, and job candidates can leave for a company that offers health benefits.

For the Employee

Pros

• Employees receive a higher net salary
• It covers the costs of one-time expenses (moving, travel, reimbursements, etc.)
• It can cover the cost of personal health insurance

Cons

• Some taxes will still be due on the gross-up amount depending on state legislation
• Voluntary deductions will still apply to grossed-up wages
• It’s usually a one-time increase

How to calculate gross pay

The gross pay calculation is: net pay / (1 – tax rate). Here’s an example scenario:

A company offers an employee a net salary of $100,000 a year. This employee pays 20% income tax.
The employer must gross up the employee’s salary to $125,000 to cover the 20% income tax. Therefore, $125,000 × (1 – 0.20) = $100,000.

Gross-up calculation considerations

Some types of one-time payments may be considered supplemental income. In these circumstances, the employer must apply the supplemental tax rate instead of the employee’s regular income tax rate. Employers must decide whether to gross up for Medicare tax, Social Security tax, and state and local taxes.

How much can you gross up?

Employers can gross up all or a portion of the tax liabilities for employee payments.

Can an employer gross up a bonus?

Yes, bonuses and additional one-time payments are common examples of compensation employers can gross up.

What is a tax gross-up clause?

Contracts between employers and employees may stipulate that employers will provide compensation for an exact amount without deductions. This is known as a gross-up clause because the employer must gross up the payment to cover the requisite tax withholdings.

How do you gross up tax exempt wages?

Wages may be subject to some taxes and exempt from others. Employers can gross up wages for the applicable taxes.