How are bonus clawbacks handled? A person gets a $1,000,000 bonus on top of his/her $250,000 salary in year one. The next year the employee has to pay back $500,000 of the bonus.
Year one income: $1,250,000
Year two income: -$250,000?
Thankfully, I don't have this in real life.
Thanks for any help.
Gary
It's called "claim of right", assuming he legitimately had the right to the $1,000,000 but then something happened. For year 2, he has the choice of (1) claiming the clawback as an itemized deduction, which would lead to negative income. I don't know if it would contribute to an NOL; if not, it's clearly a bad idea. Choice (2) is to recalculate year 1's return as if he never received the clawback, and take the difference as a refundable credit on year 2's return. He _does not_ file an amended return for year 1.
State taxes might be different.
Arthur Rubin, CRTP in Brea, CA
It's called "claim of right", assuming he legitimately had the right to the $1,000,000 but then something happened. For year 2, he has the choice of (1) claiming the clawback as an itemized deduction, which would lead to negative income. I don't know if it would contribute to an NOL; if not, it's clearly a bad idea. Choice (2) is to recalculate year 1's return as if he never received the clawback, and take the difference as a refundable credit on year 2's return. He _does not_ file an amended return for year 1.
State taxes might be different. =========== Yes, it may (will, given these facts) cause an NOL under the deduction choice. . The return of a wage bonus is a business expense.
I'm not familiar with this, so thanks for the information.
The thing that puzzles me is that if the employer had the right to claw back some of the money paid, why couldn't that be treated as a loan, so that the year 1 tax return could be amended to reflect that?
Um, maybe because it wasn't a loan?
There's a short summary description of claim of right near the back of Pub 525. See pay back.
If the payment is conditional, it sure seems like a loan to me. The only difference is that there are some circumstances when it might have to be repaid, other circumstances when it might not.
If taxes are paid in the year paid, it makes sense that it be deducted in the year when repaid. But if the payment was conditional, I don't see why it can't be recharacterized as a loan and eliminated in an amended return in the original year paid.
The term "pay back" is not located anywhere in that publication. But it does have a section entitled "Repayments."
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