Withholding Tax on Compensation

TRAIN Law tax brackets, annualization, de minimis exclusions, and year-end reconciliation — the complete guide to computing and remitting withholding tax correctly for every employee.

Two failure modes, same root cause: SMEs commonly over-withhold (employees discover it at year-end, damaging morale) or under-withhold (creating an unexpected tax liability). Both stem from not computing taxable income correctly before applying the tax table.

Who This Applies To

Withholding Tax on Compensation (WTC) applies to every employee who earns above the regional minimum wage. Minimum Wage Earners (MWEs) — employees paid exactly the DOLE-mandated regional minimum wage — are fully exempt from income tax on all pay components including overtime, holiday pay, and night shift differential.

MWE status is binary and strict. A raise above the regional minimum wage — even by a peso — eliminates MWE status entirely. At that point, normal withholding rules apply to the employee's entire compensation, not just the increment.

1. TRAIN Law Tax Brackets (2023 Onwards)

These are progressive brackets — each rate applies only to the income within that bracket, not the total income.

2. Computing Taxable Compensation

Formula

Taxable Income = Gross Compensation
− De minimis benefits (within RR 29-2025 ceilings)
− 13th month & other benefits (up to ₱90,000 annual threshold)
− SSS employee share (5% of MSC, max ₱1,750/mo)
− PhilHealth employee share (2.5%, max ₱2,500/mo)
− Pag-IBIG employee share (max ₱200/mo)

Only after all deductions do you apply the TRAIN Law bracket. Skipping any deduction results in over-withholding that accumulates silently across the year.

3. The Annualization Process

Philippine withholding is computed on projected annual income, not the specific pay period in isolation. A raise, bonus, or overtime in any month can shift the employee into a new bracket.

1

Determine gross compensation for the pay period

Include all pay components: basic, allowances, commissions, overtime, and bonuses.

2

Subtract non-taxable items

De minimis within RR 29-2025 ceilings, 13th month and bonuses absorbed by the ₱90,000 pool.

3

Subtract mandatory contributions

SSS, PhilHealth, and Pag-IBIG employee shares for the period.

4

Annualize the result

Multiply by pay periods per year (×24 semi-monthly, ×12 monthly).

5

Apply the annual tax bracket

Use the TRAIN Law table to compute annual income tax on the annualized amount.

6

Divide by pay periods

Divide the annual tax by total pay periods per year to get this period's withholding amount.

4. Key BIR Forms

How It Works in Practice

1

Standard Monthly Computation — ₱50,000/month Employee

Gross monthly salary₱50,000 Less: SSS employee share (MSC ₱35,000)−₱1,750 Less: PhilHealth (2.5% × ₱50,000)−₱1,250 Less: Pag-IBIG−₱200 Taxable income per month₱46,800 Annualized (×12)₱561,600 Annual tax: ₱22,500 + 20% × (₱561,600 − ₱400,000)₱54,820 Monthly withholding (÷12)₱4,568

2

Mid-Year Hire — Projected Income, Not Full-Year

Employee joins July 1 at ₱60,000/month. Annualize based on projected income for the remainder of the year only.

Projected gross (6 months, Jul–Dec)₱360,000 Less estimated contributions (~6 months)−₱21,000 Projected taxable annual~₱339,000 Annual tax: 15% × (₱339,000 − ₱250,000)₱13,350 Monthly withholding (÷6 remaining months)₱2,225

Note: Using a full 12-month projection would nearly double the withholding. Mid-year hires must use the projected-period method.

3

The Bonus That Breaches the ₱90,000 Threshold

An employee earning ₱40,000/month receives a ₱150,000 performance bonus in November. Combined with 13th month, total bonuses reach ~₱190,000 — exceeding the ₱90,000 threshold by ₱100,000.

Old annual tax (base scenario)₱28,900 New annual tax (with ₱100K excess bonus)₱48,900 Additional withholding to collect by year-end₱20,000

Action required: Adjust November and December withholding during year-end annualization. Employers who miss this leave employees with an unexpected tax bill.

Common Mistakes

• 1. Computing tax on gross pay instead of taxable compensation. Failing to deduct SSS, PhilHealth, Pag-IBIG, and non-taxable items before applying the tax table inflates withholding every cutoff.
• 2. Applying a flat tax rate to all employees. Some SMEs apply a fixed 15% or 20% across all staff — under-withholding higher earners and over-withholding lower earners.
• 3. Including de minimis benefits in taxable compensation. De minimis benefits within RR 29-2025 ceilings must not appear in the taxable compensation base.
• 4. Confusing the ₱90,000 and ₱250,000 thresholds. The ₱90,000 pool applies to 13th month and bonuses. The ₱250,000 threshold is the first TRAIN Law bracket. They are separate mechanisms.
• 5. Treating minimum wage earners as subject to withholding. MWEs are fully exempt. Withholding on an MWE should be zero.
• 6. Not adjusting for mid-year salary changes. A raise must trigger recomputation of projected annual income and adjustment of withholding for the remaining months.
• 7. Forgetting year-end annualization. The December payroll must reflect the true annual tax. Skipping annualization means employees either overpay or underpay.
• 8. Late or incorrect Form 2316 issuance. Form 2316 must be issued by January 31. Late issuance delays employees' loan applications, visa processing, and personal tax filing.
• 9. Not filing the Alphalist. Non-filing or incomplete Alphalist submission triggers BIR audits and penalties.

Key Deadlines & Checklist

Withholding Tax Compliance Checklist

Track across pay cycles, mid-year events, and year-end close

Every Pay PeriodCompute taxable compensation correctly (gross − non-taxable − contributions)Apply TRAIN Law brackets on annualized basisRemit via BIR Form 1601-C by the 10th (manual) or 15th (eFPS) of following monthMid-YearAdjust withholding for salary changes, promotions, or bonusesRecompute projected annual income when employees join or leaveYear-End (December Payroll)Perform year-end annualization for all employeesAdjust final withholding for any over- or under-withholdingReconcile bonuses and 13th month against ₱90,000 thresholdBy January 31Issue BIR Form 2316 to every employeeFile BIR Form 1604-C (Annual Information Return)Submit Alphalist with Form 1604-COngoingRetain payroll records and BIR returns for 10 years

Frequently Asked Questions

Do I withhold tax on the 13th month pay?

Only on the amount exceeding ₱90,000 (combined with other non-de-minimis bonuses). The first ₱90,000 of 13th month pay and other benefits is tax-exempt under the TRAIN Law.

What happens if an employee was over-withheld during the year?

The over-payment is refunded through the December payroll as part of year-end annualization. The refund appears as a credit in the December net pay — no BIR refund needed.

What happens when an employee resigns mid-year?

The employer performs annualization as of the separation date, issues Form 2316 covering the period of employment, and refunds or collects any over/under withholding through the final pay.

What is substituted filing?

An employee qualifies if they received compensation from only one employer during the year and the employer correctly withheld all tax. Form 2316 signed by both parties serves as their final tax return.

What if I discover I've been under-withholding for months?

Recompute annualized tax, adjust the remaining months' withholding, and document the correction. Prior-year errors may require voluntary disclosure — consult a tax advisor.

Are employee SSS/PhilHealth/Pag-IBIG contributions deductible from taxable income?

Yes. All three employee shares are deducted from gross compensation before applying the TRAIN Law bracket, reducing the amount of withholding owed.