I have never even heard of this. It's been about 4 years since I've done payroll but I've done many years of it and don't recall anything about a flat rate for supplemental income. I don't even remember seeing any such thing in a Circular E before.
According to what I'm reading here, law is not requiring an employer to withhold any particular amount. It's more like allowing them to. (Assuming it's under 1 million.) And there's stipulations about when it can even be done.
I'm glad I've never worked for a bigger company, because small companies usually ignore this type of thing anyway. The problem comes in the fact that if you treat a bonus (or vacation check, etc.) as a regular payroll check, the taxes can get all mucked up. When I did payroll at small companies, I had my own way to deal with that issue because I had control over what I did and
could adjust anything I wanted in the software to account for it. But places with payroll departments and set regulations can't do that kind of thing.
It all sounds a little weird to me, because ultimately, the individual employee is actually responsible for their own taxes, not the company. The company has never been responsible for how someone's taxes are done. i.e. I can walk in and claim 5 exemptions and that's what they follow; they don't make a decision for me how many exemptions to take. I'd be a little miffed if a company took out 25% of any supplemental wages for me. It would result in a refund, which it sounds like is what they're trying to avoid. (They mentioned the problem of "overwithholding.")
Well, you were looking for answer, not a commentary. -) As long as it's under 1 million, looks like it's not required, but optional. i.e. there are two methods to do it.