The subject of taxation of employee benefits made rare headlines earlier this month when a New York grand jury indicted the Trump Organization and its chief financial officer, Allen Weisselberg, for tax crimes relating to unreported fringe benefits. The indictment alleges that Weisselberg intentionally failed to report and pay taxes on over $1.75 million of indirect employee compensation. Such indirect compensation is alleged to include lease payments for Weisselberg and his spouse’s apartment and their personal cars, utility bills, garage expenses and private school tuition for members of Weisselberg’s family.
In support of the criminal charges in this case, the indictment describes concerted, years-long efforts by Weisselberg and the organization to conceal these payments, while at the same time internally tracking them as part of Weisselberg’s employee compensation. But in less nefarious-seeming instances, employer-provided benefits for housing, automobile use and tuition are actually pretty common, and sometimes non-taxable. So how do you know when such an item is taxable employee compensation and must be reflected in employee pay, and when it isn’t?
What are fringe benefits?
According to the IRS, a fringe benefit is a form of pay for the performance of services. This is naturally a broad category. For example, an employee receives a fringe benefit when an employer allows the employee to use a business vehicle to commute to and from work.
Unless specifically excluded by the tax law, any fringe benefit provided by an employer to an employee is taxable, and must be included in the employee’s pay and reported on their annual Form W-2. Luckily, there are a number of such exclusions. The most common tax-free fringe benefits include group health insurance, and contributions to qualified retirement plans (e.g., 401(k) plans), Health Savings Accounts (HSAs) and flexible spending arrangements (FSAs). But what about the other fringe benefits mentioned above that employers may provide?
The Internal Revenue Code (“Code”) provides a very narrow set of circumstances in which an employer’s payment or reimbursement of an employee’s regular housing expenses could be excluded from an employee’s pay. To qualify for the lodging exclusion under Section 119 of the Code, the lodging must be provided: (1) for the employer’s convenience; (2) on the employer’s business premises; and (3) as a condition of the employee’s employment (i.e., the employee is required to accept the lodging). If these conditions are met, the value of lodging provided to the employee, as well as the employee’s spouse and dependents, may be excluded from the employee’s pay.
In contrast to housing expenses that mostly benefit an employee personally, employer reimbursement of substantiated hotel and other travel expenses incurred by employees on bona fide business trips for employers are commonly excludible from an employee’s pay.
Auto Allowances/Use of Company Vehicles
An employee’s personal use of an employer-provided automobile any more than a minimal amount is generally considered compensation that must be included in an employee’s gross income. There are a variety of ways that the income tax regulations permit employers and employees to account for the taxable portion of an employee’s use of an employer-provided automobile. One of the more common methods used by employers for calculating employee compensation is the cents-per-mile rate set annually by the IRS.
Parking and Transit
Another common, transportation-related fringe benefit is parking and/or transit passes. For 2021, benefits up to $270 per month can be excluded from employee income for both qualified parking and/or for combined commuter highway vehicle transportation and transit passes. Any benefit provided in excess of these annual limits must be included in employee pay.
Section 127 of the Code allows a special exclusion from employee pay for up to $5,250 per calendar year in expenses paid toward qualified educational assistance programs. For purposes of this exclusion, “educational assistance” means payment by an employer, of expenses incurred by or on behalf of an employee, for education of the employee (including, but not limited to, tuition, fees, and similar payments, books, supplies and equipment). An employer may also generally provide courses of instruction for an employee (including related books, supplies and equipment— but not lodging, transportation or meals) on a tax-free basis.
In addition, under the 2017 Tax Cuts and Jobs Act, employer payments toward qualified student loans (including principal or interest), as either payments to employees or direct payments to lenders, are excludible from an employee’s pay through December 31, 2025.
In summary, it is important for employers to be aware when they provide employees with fringe benefits, at the time the benefits are provided, to ensure that such benefits receive proper tax and accounting treatment. If an employer is unsure whether— and to what extent— a particular fringe benefit should be included in an employee’s pay, it is always prudent to seek advice from a competent professional.
Written by Timothy S. Klimpl and Jeffrey M. Beck*
*Jeffrey M. Beck is a 2021 University of Connecticut School of Law Summer Associate at Carmody Torrance Sandak & Hennessey LLP