Fringe Benefits

September 7, 2023
Types of Fringe Benefits

In general, fringe benefits broadly include all benefits provided by an employer

to its employees other than regular salary for services rendered.

● Current benefits, including cash, property, services

● Deferred benefits provided as future cash payments or property rights
● Insurance benefits
Background

Until passage of the Tax Reform Act of 1984, there was no statutory framework for
determining the taxability of the numerous “incidental” items or benefits provided by
employer under varying circumstances to employees. Such benefits were
commonly referred to as perquisites or “perks”...

Case law and long-standing administrative practices resulted in inconsistent rules.

The Tax Reform Act of 1984 codified much of what had been historical practices
and existing law.

The approach under the 1984 Act was to amend Section 61 to clarify that the
general rule of income inclusion applied to incidental fringe benefits. The general
rule of inclusion is limited by Section 132 which provides a framework for
permissible exclusion of certain fringe benefits from gross income. Initially only
established four broad categories of excludible benefits. Four additional categories
have been added by subsequent legislation.
General Exclusions

Code Section 132(a) - Exclusion from gross income. Gross income shall not
include any fringe benefit which qualifies as a -

1) No-Additional-Cost Service

2) Qualified Employee Discount

3) Working Condition Fringe

4) De Minimis Fringe
General Exclusions

Code Section 132(a) - Exclusion from gross income. Gross income shall not
include any fringe benefit which qualifies as a -

5) Qualified Transportation Fringe

6) Qualified Moving Expense Reimbursements (suspended for 2018 through

2025, except for certain active military duty)

7) Qualified Retirement Planning Services

8) Qualified Military Base Realignment and Closure Payments

Section 132 completes the Internal Revenue Code framework by recognizing the
exclusion from income of those fringe benefits subject to other explicit statutory
provisions.

Code Section 132(l) provides as follows - “Section not to apply to fringe benefits
expressly provided for elsewhere. This section … shall not apply to any fringe
benefits of a type the tax treatment of which is expressly provided for in any other
section of this chapter.”
Specific Exclusions

The following IRC statutory exclusions not specifically referred to as a “fringe

benefit” include -

● 105 - Benefits received through employer health or accident insurance

● 106 - Health insurance premiums paid by employer
● 119 - Meals or lodging provided for the employer’s convenience
● 125 - Cafeteria plans
● 127 - Educational assistance program
● 129 - Dependent care assistance program
● 137 - Adoption assistance program
Types of Tax Treatment of Fringe Benefits

Taxable - Includible in gross income, not excluded under any Internal Revenue
Code section. Treat as wages subject to federal income tax withholding, Social
Security and Medicare taxes, and reporting on Form W-2. Section 451(a). See
Announcement 85-113.

Nontaxable - Excluded from wages by a specific IRC section.

Partially taxable - Part is excluded by IRC section and part is taxable. Benefits
may be excludable up to specific dollar limits - i.e., qualified transportation
fringe benefit under 132.

Tax-deferred - Benefit is not taxable when received, but subject to tax later - i.e.,
employer contributions to an employee’s retirement plan not taxable when
made but when distributed to employee.
General Valuation Rule

In general, taxable fringe benefits are included as wages based on their “fair
market value” (FMV) at the time of payment. FMV is the amount a willing buyer
would pay an unrelated willing seller, neither one forced to conduct the
transaction and both having reasonable knowledge of the facts.

In most cases, the cost and FMV are the same. However, there may be
situation in which the FMV and cost differ. For example, the cost an employer
incurs to provide a benefit may be less than the value of the benefit to the
employee. Reg. Section 1.61-21(b).
Working Condition Fringe
Working Condition Fringe

In general, a working condition fringe benefit includes property or services that,

if the employee had paid for the property or service, the cost would have been
allowable as a business expense deduction to the employee. That is, if the cost
of an item is an allowable business expense deduction for the employee, it may
be excludable from the employee’s wages as a working condition fringe benefit
if provided by the employer. Code Section 132(d).

If the IRC provides an exclusion from income for a specific benefit, the rules
regarding working condition fringe benefits under Section 132 do not apply to
that benefit. Reg. Section 1.132-1(f)(1).
Working Condition Fringe

In general, to be excludable as a working condition fringe benefit, all the

following must apply:

● The benefit must relate to the employer’s business,

● The expense would have been an allowable business expense deduction to

the employee if the expense had been paid personally, and

● The business use must be substantiated with records

Working Condition Fringe

§ 1.132-5 Working condition fringes.

(a) In general—(1) Definition. Gross income does not include the value of a
working condition fringe. A “working condition fringe” is any property or
service provided to an employee of an employer to the extent that, if the
employee paid for the property or service, the amount paid would be allowable
as a deduction under section 162 or 167.
Working Condition Fringe

§ 1.132-5 Working condition fringes.

(a) In general—(1) Definition.

(ii) If, under section 274 or any other section, certain substantiation
requirements must be met in order for a deduction under section 162 or 167 to
be allowable, then those substantiation requirements apply when determining
whether a property or service is excludable as a working condition fringe.

(iii) An amount that would be deductible by the employee under a section other
than section 162 or 167, such as section 212, is not a working condition fringe.
Code Section 162

(a) In general
There shall be allowed as a deduction all the ordinary and necessary expenses
paid or incurred during the taxable year in carrying on any trade or business,
including—

(1) a reasonable allowance for salaries or other compensation for personal

services actually rendered;
Relevant Section 162 Regulation Provisions

§ 1.162-1 Business expenses.

(a) In general. Business expenses deductible from gross income include the
ordinary and necessary expenditures directly connected with or pertaining to
the taxpayer's trade or business, … Among the items included in business
expenses are management expenses, commissions (but see section 263 and
the regulations thereunder), labor, … operating expenses of automobiles used in
the trade or business, traveling expenses while away from home solely in the
pursuit of a trade or business (see § 1.162–2)...
Relevant Section 162 Regulation Provisions

§ 1.161-1 Allowance of deductions.

§ 1.162-1 Business expenses.
§ 1.162-2 Traveling expenses.
§ 1.162-5 Expenses for education.
§ 1.162-7 Compensation for personal services.
§ 1.162-8 Treatment of excessive compensation.
§ 1.162-9 Bonuses to employees.
§ 1.162-10 Certain employee benefits.
§ 1.162-10T Questions and answers relating to the deduction of employee benefits under
the Tax Reform Act of 1984; certain limits on amounts deductible (temporary).
§ 1.162-17 Reporting and substantiation of certain business expenses of employees.
§ 1.162-25 Deductions with respect to noncash fringe benefits.
§ 1.162-25T Deductions with respect to noncash fringe benefits (temporary).
§ 1.162-32 Expenses paid or incurred for lodging when not traveling away from home.
Working Condition Fringe

§ 1.132-5 Working condition fringes.

(a) In general—(1) Definition.

(v) A cash payment made by an employer to an employee will not qualify as a

working condition fringe unless the employer requires the employee to—
(A) Use the payment for expenses in connection with a specific or pre-arranged
activity or undertaking for which a deduction is allowable under section 162…,
(B) Verify that the payment is actually used for such expenses, and
(C) Return to the employer any part of the payment not so used.

Note: Generally, cash payments or cash equivalents are not working condition
fringe benefits; however, they may be excludable if they represent
reimbursements paid under an accountable plan.
Working Condition Fringe

Definition of “Employee”

All of the following individuals are considered an “employee” for purposes of

the working condition fringe benefit -

● Current employees
● Partners
● Board of directors of the employer
● Independent contractors
Accountable Plan
Business Connection

The employee must have paid or incurred allowable business expenses while
performing services as an employee.

The reimbursement or advance must be payment for the expenses and must
not be an amount that would have otherwise been paid to the employee as
wages.

Reg. Section 1.62-2(d)

Business Connection
Accountable Plan

Under an accountable plan, allowances or reimbursements paid to employees

for job-related expenses are excluded from wags and not subject to payroll tax
withholding. An accountable plan does not require a written plan. An allowance
or reimbursement policy is sufficient. The required elements of an accountable
plan are as follows -

1. Business connection to the expenditure

2. Adequate accounting by the recipient within a reasonable period of time
3. Excess reimbursements or advances are returned within a reasonable
period of time

Code Section 62(c); Reg. Section 1.62-2(c)(2)

Business Connection

Reg. Section 1.62-2(d) Business connection—(1) In general. … an arrangement

meets the requirements of this paragraph (d) if it provides advances,
allowances… , or reimbursements only for business expenses that are allowable
as deductions by part VI (section 161 and the following), subchapter B, chapter
1 of the Code, and that are paid or incurred by the employee in connection with
the performance of services as an employee of the employer. The payment may
be actually received from the employer, its agent, or a third party for whom the
employee performs a service as an employee of the employer, and may include
amounts charged directly or indirectly to the payor through credit card systems
or otherwise. In addition, if both wages and the reimbursement or other
expense allowance are combined in a single payment, the reimbursement or
other expense allowance must be identified either by making a separate
payment or by specifically identifying the amount of the reimbursement or
other expense allowance.
Business Connection

(2) Other bona fide expenses. If an arrangement provides advances,

allowances, or reimbursements for business expenses described in paragraph
(d)(1) of this section (i.e., deductible employee business expenses) and for
other bona fide expenses related to the employer's business (e.g., travel that is
not away from home) that are not deductible under part VI (section 161 and the
following), subchapter B, chapter 1 of the Code, the payor is treated as
maintaining two arrangements. The portion of the arrangement that provides
payments for the deductible employee business expenses is treated as one
arrangement that satisfies this paragraph (d). The portion of the arrangement
that provides payments for the nondeductible employee expenses is treated as
a second arrangement that does not satisfy this paragraph (d) and all amounts
paid under this second arrangement will be treated as paid under a
nonaccountable plan. …
Income Tax Consequences for Employer

In general, an employer may deduct all ordinary and necessary expenses it pays or
incurs during the taxable year in carrying on any trade or business, including
reasonable allowances for salaries or other compensation …Thus, except as
otherwise limited by other applicable Code provisions, an employer may deduct all
money paid to its employees as reasonable compensation and may also deduct the
cost or value of goods, services, etc. provided or made available to its employees as
fringe benefits in connection with such employment.

§ 1.162-7 Compensation for personal services.

(a) There may be included among the ordinary and necessary expenses paid or
incurred in carrying on any trade or business a reasonable allowance for salaries or
other compensation for personal services actually rendered. The test of deductibility in
the case of compensation payments is whether they are reasonable and are in fact
payments purely for services.
Income Tax Consequences for Employer

Special Rules

1. In general, if the value of the property, goods, services, etc. made available is
excluded altogether from the employee’s gross income, the employer may still
deduct the cost of the benefit in the year it is made available or paid to the
employee. While not specifically provided for in the Code, a failure to allow the
deduction at that time could effectively preclude the deduction because no
subsequent event offers a more appropriate time for allowance of the deduction.

2. Under Section 404, an employer may deduct amounts paid to a trust exempt from
income tax under Section 501(a) that forms part of a qualified pension, profit
sharing or stock ownership plan in the taxable year contributions are made to the
trust, subject to the various limitations applicable to such plans.
Substantiation
Substantiation

In general, an employee must verify the date, time, place, amount and business
purposes of expenses. Receipts are required unless the reimbursement is
made using per diem rates (per diem rates are only available for certain
expenses). See Reg. Section 1.62-2(e), Code Section 274(d) and Rev. Proc.
2011-47.

Employees generally should have documentary evidence, such as bills, receipts,

canceled checks or similar items to support their claimed expenses. This rules
does not apply to:
● Meal or lodging expenses reimbursed on per diem basis at a rate at or
below the allowable maximum, under an accountable plan
● Individual expenditures (except for lodging) of less than $75
● Expenditures for transportation expense for which a receipt is not readily
available.
Substantiation

Reg. Section 1.62-2(e) Substantiation—

(1) In general. An arrangement meets the requirements of this paragraph (e) if it
requires each business expense to be substantiated to the payor in accordance
with paragraph (e)(2) or (e)(3) of this section, whichever is applicable, within a
reasonable period of time.

(2) Expenses governed by section 274(d). An arrangement that reimburses

travel, entertainment, use of a passenger automobile or other listed property, or
other business expenses governed by section 274(d) meets the requirements
of this paragraph (e)(2) if information sufficient to satisfy the substantiation
requirements of section 274(d) and the regulations thereunder is submitted to
the payor. See § 1.274–5. Under section 274(d), information sufficient to
substantiate the requisite elements of each expenditure or use must be
submitted to the payor.
Substantiation

Reg. Section 1.62-2(e) Substantiation—

(3) Expenses not governed by section 274(d). An arrangement that reimburses
business expenses not governed by section 274(d) meets the requirements of
this paragraph (e)(3) if information is submitted to the payor sufficient to
enable the payor to identify the specific nature of each expense and to
conclude that the expense is attributable to the payor's business activities.
Therefore, each of the elements of an expenditure or use must be
substantiated to the payor. It is not sufficient if an employee merely aggregates
expenses into broad categories (such as “travel”) or reports individual
expenses through the use of vague, nondescriptive terms (such as
“miscellaneous business expenses”). See § 1.162–17(b).
Return of Excess
Return of Excess

Reg. Section 1.62-2(f) Returning amounts in excess of expenses—(1) … an

arrangement meets the requirements of this paragraph (f) if it requires the
employee to return to the payor within a reasonable period of time may amount
paid under the arrangement in excess of the expenses substantiated in
accordance with paragraph (e) of this section. The determination of whether an
arrangement requires an employee to return amounts in excess of
substantiated expenses will depend on the facts and circumstances. An
arrangement whereby money is advanced to an employee to defray expenses
will be treated as satisfying the requirements of this paragraph (f) only if the
amount of money advanced is reasonably calculated not to exceed the amount
of anticipated expenditures, the advance of money is made on a day within a
reasonable period of the day that the anticipated expenditures are paid or
incurred, and any amounts in excess of the expenses substantiated in
accordance with paragraph (e) of this section are required to be returned to the
payor within a reasonable period of time after the advance is received.
Reasonable Period

Reg. Section 1.62-2(g) Reasonable period—(1) In general. The determination of

a reasonable period of time will depend on the facts and circumstances.
(2) Safe harbors—
(i) Fixed date method. An advance made within 30 days of when an expense is
paid or incurred, an expense substantiated to the payor within 60 days after it is
paid or incurred, or an amount returned to the payor within 120 days after an
expense is paid or incurred will be treated as having occurred within a
reasonable period of time.
(ii) Periodic statement method. …
Travel Expenses
Code Section 162

(a) In general
There shall be allowed as a deduction all the ordinary and necessary expenses
paid or incurred during the taxable year in carrying on any trade or business,
including—
…
(2) traveling expenses (including amounts expended for meals and lodging
other than amounts which are lavish or extravagant under the circumstances)
while away from home in the pursuit of a trade or business; and
Relevant Section 162 Regulation Provisions

§ 1.162-2 Traveling expenses.

(a) Traveling expenses include travel fares, meals and lodging, and expenses
incident to travel such as expenses for sample rooms, telephone and telegraph,
public stenographers, etc. Only such traveling expenses as are reasonable and
necessary in the conduct of the taxpayer's business and directly attributable to
it may be deducted. If the trip is undertaken for other than business purposes,
the travel fares and expenses incident to travel are personal expenses and the
meals and lodging are living expenses. If the trip is solely on business, the
reasonable and necessary traveling expenses, including travel fares, meals and
lodging, and expenses incident to travel, are business expenses.
Relevant Section 162 Regulation Provisions

§ 1.162-2 Traveling expenses. (b)

(1) If a taxpayer travels to a destination and while at such destination engages
in both business and personal activities, traveling expenses to and from such
destination are deductible only if the trip is related primarily to the taxpayer's
trade or business. If the trip is primarily personal in nature, the traveling
expenses to and from the destination are not deductible even though the
taxpayer engages in business activities while at such destination. …

(2) Whether a trip is related primarily to the taxpayer's trade or business or is

primarily personal in nature depends on the facts and circumstances in each
case. The amount of time during the period of the trip which is spent on
personal activity compared to the amount of time spent on activities directly
relating to the taxpayer's trade or business is an important factor in determining
whether the trip is primarily personal.
Travel Expenses

Key concepts related to determining whether travel-related expenses are

excludable, including -
● Tax home
● Definition of “away from home” (overnight/sleep or rest rules)
● Temporary v indefinite travel assignments
● Substantiation methods
● Reimbursements for travel expenses

Travel expense reimbursements may include -

● Costs to travel to and from business destination
● Transportation cost while at business destination
● Lodging, meals and incidental expenses
● Cleaning, laundry and other miscellaneous expenses
Tax Home

Critical threshold determination because employee must be considered away

from his or her tax home for reimbursements of travel expenses to be
excludable. In general, the employee’s tax home is the general vicinity of their
principal place of business.

Tax home includes the entire metropolitan area of the principal place of
business.

Generally, the tax home is the employee’s regular place of business or official
duty station, regardless of where the employee maintains a family
home/residence.

If more than one regular place of business, then tax home is the main place of
business determined by time worked, degree of business activity and income
earned in each location.
Temporary v. Indefinite Travel Assignments

In general, reimbursements of travel expenses for “temporary” assignments

away from the tax home at a single location are generally not taxable to
employees. However, if the assignment is “indefinite,” then the employees are
considered to have moved their tax home to the new work location.

Determine whether an assignment is realistically expect to last less than one

year when the assignment begins.

● Assignment considered “temporary” if realistically expect to be, and does

in fact, last one year or less
● Assignment considered “indefinite” if realistically expected to last more
than one year
Per Diem Reimbursement

A per diem is a daily allowance to pay for lodging, meals and incidental
expenses while traveling on business. The amount of the expenses reimbursed
using per diem rates will be deemed substantiated without receipts, provided
the requirements of the regulations are satisfied. Reg. Section 1.162-2(e)(2)
and 1.274-5(g).
Federal Per Diem Rate

Federal per diem rates include separate rates for lodging and for meals and
incidental expenses (M&IE). Rates establish the maximum amounts for
different geographical areas that can be excluded per day for such expenses.

United States General Services Administration (GSA)

https://www.gsa.gov/travel/plan-book/per-diem-rates

Lodging - includes only cost of lodging itself

M&IE - includes meals, tips and fees for food and luggage handling services
Per Diem Allowance

● Per diem allowance must be at or less than federal rates to be fully

excludable
● No receipts are required if per diem allowance is used, but payments must
meet the other substantiation requirements including time (date), place
and business purposes
● Employer’s substantiation requirements must, at a minimum, meet the
federal requirements.
Autos
Reimbursement for Use of Employee-Owned Vehicles

In general, an employee may deduct the costs of operating a vehicle for work as
an employee, using either actual expenses or a standard mileage rate. If an
employer reimburses these expenses under an accountable plan, they are not
deductible by the employee, but may be excludable from the employee’s
income.

Most often, an employer will choose to reimburse an employee through a

standard mileage rate allowance in lieu of actual automobile expenses through
an accountable plan.

Standard federal mileage rate (currently $0.655 per mile in 2023) is considered
to cover all expenses of operating a vehicle, including insurance, maintenance,
tires, oil, etc. It does not include parking or toll charges.
Reimbursement for Use of Employee-Owned Vehicles

Substantiation requirement - Similar to when utilizing the federal per diem rules,
utilization of standard federal mileage rate still require the employee to record
the date, business purpose and place of each trip.

Mileage should be recorded at or near the time incurred. Monthly expense

reports generally meet this requirement.
Employer Provided Vehicles

If an employer provides a vehicle that an employee uses solely/exclusively for

business purposes and the substantiation requirements are met, then there are
no tax consequences or reporting required for the business use. The use is
treated as a working condition fringe benefit. Recall the definition of a working
condition fringe.

Employees should maintain records to substantiate that all vehicle use was for
business.

Personal use is taxable to the employee as wages. Employer can choose to

include all use as wages to avoid administrative burden of substantiation
requirements.
Employer Provided Vehicles

Personal use

● Commuting between residence and work station

● Vacation or weekend use
● Use by spouse or dependents

Valuation of Personal Use

● Automobile Lease Valuation Rule - Reg. Section 1.61-21(d)
● Vehicle Cents Per Mile Valuation Rules - Reg. Section 1.61-21(e)
● Commuting Valuation Rule - Reg. Section 1.61-21(f)
Automobile Lease Valuation Rule

Compute the value for purposes of the lease valuation rule as follows -

1. Determine the FMV of the vehicle on the first day it is made available to the
employee
2. Use table in Reg. Section 1.61-21(d)(2)(iii) (See IRS Publication 15-B) to
compute the annual lease value
3. Multiply the annual lease value by the percentage of personal use based on
records
Sample Travel
Expense Record