An accrued year-end bonus is fixed and determinable when two things are true before the tax year closes: the employer has a legally binding obligation to pay, and the amount can be calculated with reasonable accuracy using a method locked in by December 31. Both prongs come from the IRS’s All Events Test, and both have to be satisfied in the same tax year you want to claim the deduction.1Office of the Law Revision Counsel. 26 USC 461 – General Rule for Taxable Year of Deduction Getting either one wrong pushes the deduction into the following year, and in some situations pushes it further than that.
When the Liability Is Fixed
A bonus liability is fixed when the employer’s obligation to pay is unconditional. If any future event could wipe out the duty to pay, the liability is still contingent and the deduction fails for the current year.
The classic problem is a forfeiture clause. If an employee has to still be on the payroll in March to collect a bonus accrued in December, the company’s obligation on December 31 is conditional on future employment. That is not a fixed liability. The same is true when the CEO or a compensation committee keeps discretion to reduce or eliminate individual awards after year-end. The obligation has to exist as a matter of law by December 31, not as a reasonable expectation.
The IRS expects evidence that a formal corporate action created the obligation before the year ended. A board resolution or a compensation committee decision adopted on or before December 31 is the standard proof.2Internal Revenue Service. Revenue Ruling 2011-29 A verbal promise from a manager doesn’t establish the liability. A bonus that requires post-year-end board approval to finalize isn’t fixed either, because the approving action hasn’t happened yet.
The program terms should also be communicated to eligible employees when they become eligible and whenever the terms change. That communication is part of what makes the obligation enforceable.
When the Amount Is Determinable
The second prong doesn’t require knowing an exact dollar figure on December 31. It requires a reliable calculation method that is set before the year closes.3Internal Revenue Service. Revenue Ruling 98-39 A bonus defined as 10% of net revenue is determinable at year-end even though the final accounting isn’t complete until February, because the formula is fixed and the inputs are objective.
The formula or methodology has to be adopted and communicated to employees before year-end. Bonuses tied to specific, measurable metrics like total sales volume or operating income qualify. A bonus left entirely to the subjective post-year-end judgment of a compensation committee does not, because no formula constrains the outcome.
Reasonable estimates are fine when the underlying data is sound. If year-end revenue is $9.8 million and the final audited number lands at $10.1 million, the estimate was reasonable and the deduction holds. What fails the test is a bonus amount that depends on unknowable future events, such as next year’s stock price or a pending regulatory decision.
Bonus Pools and the Reallocation Rule
Many employers set a bonus pool at year-end rather than fixing individual award amounts. The IRS allows this. A deduction is available even when the employer doesn’t yet know which specific employees will receive how much, as long as the minimum total amount payable to the group is established by December 31.2Internal Revenue Service. Revenue Ruling 2011-29
The pool itself can be set through a formula tied to year-end financial results or through a board resolution adopted before December 31. What matters is what happens to an individual’s share if that person leaves before the payout date. If the departing employee’s allocation reverts to the employer, the aggregate liability was never truly fixed, because the total payout can shrink after year-end. If forfeited amounts are redistributed among the remaining eligible employees, the total pool stays intact and the deduction survives.2Internal Revenue Service. Revenue Ruling 2011-29
This is where many programs quietly fail. A plan that says departing employees forfeit their share without saying where the money goes reads as reducing the employer’s total obligation. Drafting the plan so forfeited amounts flow to the remaining participants solves it.
The 2.5-Month Payment Deadline
Passing the All Events Test isn’t enough on its own. The bonus also has to be paid within a short window after year-end or it gets reclassified as deferred compensation. Under Treasury regulations, compensation is presumed deferred if the employee receives it more than 2½ months after the end of the employer’s tax year in which the services were performed.4GovInfo. 26 CFR 1.404(b)-1T – Deduction Limitation for Deferred Compensation For a calendar-year employer, that deadline is March 15 of the following year.
March 15, 2026 falls on a Sunday, so the effective deadline for 2025 bonuses is Monday, March 16, 2026. Miss it for a non-related employee and the deduction doesn’t disappear; it shifts into the tax year the bonus is actually paid. That one-year delay can be expensive when it moves a large deduction out of a high-income year.
Meeting the 2.5-month deadline does double work. It preserves the current-year deduction, and it keeps the payment inside the short-term deferral exception to Section 409A, so the employee avoids immediate income inclusion and the 20% additional tax that applies when nonqualified deferred compensation rules are violated.5eCFR. 26 CFR 1.409A-1 – Definitions and Covered Plans
Related-Party Payments Override the Deadline
When the recipient is a related party, the 2.5-month deadline stops mattering. IRC Section 267 imposes a strict matching rule: the accrual-basis employer cannot deduct the bonus until the tax year the cash-basis recipient actually includes it in income.6Office of the Law Revision Counsel. 26 USC 267 – Losses, Expenses, and Interest With Respect to Transactions Between Related Taxpayers Accrue a $50,000 bonus to a related party in December, pay it the following June, and the deduction moves to that following year regardless of how clean the year-end accrual was.
Who counts as related depends on entity type:
- C corporation: an individual who owns, directly or indirectly, more than 50% of the corporation’s stock. Family attribution pulls in siblings (including half-siblings), a spouse, ancestors, and lineal descendants.6Office of the Law Revision Counsel. 26 USC 267 – Losses, Expenses, and Interest With Respect to Transactions Between Related Taxpayers
- S corporation: any person who owns any amount of stock, even a single share. There is no 50% threshold.7Internal Revenue Service. An S Corporation Cannot Deduct Accrued Expenses for Related Parties
- Partnership: any person who owns directly or indirectly any capital or profits interest.6Office of the Law Revision Counsel. 26 USC 267 – Losses, Expenses, and Interest With Respect to Transactions Between Related Taxpayers
The S corporation rule catches more owners than expected. A 5% shareholder who receives a year-end bonus is a related party, and the corporation cannot deduct the bonus until the shareholder reports it as income. Constructive ownership rules broaden this further: stock owned by a family member can be attributed to you even if you hold no shares yourself.8eCFR. 26 CFR 1.267(c)-1 – Constructive Ownership of Stock
Documentation That Holds Up on Audit
The IRS doesn’t accept an assertion that a bonus was fixed and determinable at year-end. You need contemporaneous records showing the liability existed, the amount was calculable, and employees were informed. Revenue Ruling 2011-29 points to several documents that establish the deduction:
- A board or compensation committee resolution adopted on or before December 31 that commits the company to paying bonuses and sets either the total pool or the formula.2Internal Revenue Service. Revenue Ruling 2011-29
- A written formula tied to objective financial data such as revenue, EBITDA, or units sold. The underlying financial results can be finalized later; the formula itself has to be fixed by year-end.
- Written notice to employees of the program terms when they become eligible and whenever the program is modified.2Internal Revenue Service. Revenue Ruling 2011-29
- Payment records showing the bonus was paid within the 2.5-month window, with dates and amounts.
Even when every legal requirement was technically met, the absence of contemporaneous records gives an examiner room to push the deduction into a later year. Formalizing the program before December 31 costs a few hours and protects a deduction usually worth far more.