The term “fringe benefit” is not defined in the Internal Revenue Code or in IRS Treasury Regulations. Fringe benefits can be in the form of cash or non-cash compensation. Typically, a fringe benefit is any property or service that an employee receives from the university/agency in lieu of, or in addition to, regular taxable wages. Even though the IRS does not define a “fringe benefit”, the regulations do contain several examples which include: employer-provided automobile; club memberships; complimentary entertainment or sporting tickets; flight on an employer aircraft; free or discounted commercial airline flights; and discounts on properties or services. A fringe benefit may be attributable to an employee, even though the employee did not actually receive the fringe benefit (e.g., transportation provided to an employee’s spouse or child for personal purposes).
Since “gross income” is defined as including all items of value received in whatever form derived, fringe benefits should theoretically be included in gross income. IRS Treasury Regulation 1.61-21 provides that all fringe benefits provided to an employee are taxable as wages unless they are specifically excluded by provisions in the Internal Revenue Code, or unless they are paid for by the employee. Benefits specifically excluded from income by the Internal Revenue Code include:
- awards for length of service and safety achievement (IRC Section 74);
- group-term life insurance coverage up to $50,000 purchased for employees (IRC Section 79);
- amounts received under accident and health plans (IRC Section 105);
- contributions by employers to accident and health plans (IRC Section 106);
- qualified tuition reduction (IRC Section 117(d));
- meals or lodging furnished for the convenience of the employer (IRC Section 119);
- qualified campus lodging (IRC Section 119(d));
- educational assistance programs (IRC Section 127);
- dependent care assistance programs (IRC Section 129); or
- certain fringe benefits such as de minimis fringe benefits, no-additional-cost services, qualified employee discounts, and working condition fringe benefits (IRC Section 132). (It is important to remember that if the tax treatment of a particular fringe benefit [other than a de minimis fringe] is expressly covered by another Code section, Code Section 132 does not apply.)
See Appendix A for a chart listing potential federal reporting and withholding tax penalties for underreporting employees’ fringe benefit income.
3.2 The De Minimis Fringe Benefit Exclusion
A fringe benefit qualifies for exclusion as a de minimis fringe benefit if its value is so small that, considering the frequency with which the employer provides them, accounting for them would be unreasonable or impractical. (IRS Treasury Regulation 1.132-6). Examples include soft drinks and snack items furnished to employees; occasional sporting event or theater tickets (not seasonal); flowers provided to employees under special circumstances; occasional parties or picnics; traditional holiday gifts of property (not cash) with a low fair market value; and meals provided to employees at the university/agency’s dining facility (see section 3.11.C.2).
If, however, these secondary benefits are provided frequently, then the value of those benefits, in the aggregate, may become material. When this occurs, a benefit of relatively small value will fail to qualify for the de minimis exclusion because the combined value becomes large enough to justify accounting for the benefit. If an employer provides a benefit that exceeds either the value or the frequency limitations for de minimis fringes, the entire benefit is included in the employee’s income, not just the portion that exceeds the de minimis limits. (IRS Treasury Regulation 1.132-6(d)(4)). Fringe benefits that do NOT qualify as de minimis fringes include season tickets to events and the commuting use of an employer-provided automobile. (IRS Treasury Regulation 1.132-6).
3.3 No-Additional-Cost Services Exclusion
A free or reduced charge service provided to employees is excludable from income as a no-additional-cost service if the service is offered for sale to students/customers as well as employees in the ordinary course of the university’s business. Also, the university/agency must incur no substantial additional expense, including foregone revenue, in providing the service to the employee. Hotel accommodations, transportation, and telephone services are eligible for treatment as no-additional-cost services provided the services are, in fact, excess capacity. (IRS Treasury Regulation 1.61-21(a)(2)).
3.4 Qualified Employee Discounts Exclusion
An employee is not required to include in gross income any qualified discount received from the university/agency on property or services that the university/agency offers to students/customers in the ordinary course of business as long as the discount does not exceed:
- for goods — the gross profit percentage multiplied by the price at which property is offered to students/customers in the ordinary course of business; and
- for services — 20 percent of the price at which a service is offered to students/customers.
(IRS Treasury Regulation 1.61-21(a)(2)). Any excess discount would be treated as taxable income. Also, to the best of the employer’s knowledge, the goods or services must be purchased only for the personal use of the individual making the purchase, although discounted property can be used as gifts to relatives or friends.
3.5 Working Condition Fringe Benefit Exclusion
Working condition fringes are generally defined as any property or services provided by an employer that, if paid by the employee, would be deductible as a trade or business expense under IRC Section 162. The value of a working condition fringe benefit is excludable from an employee’s income. To qualify as a working condition fringe, the benefit received by the employee must be related to the employee’s duties at the university/agency. The business use of an employer-provided vehicle qualifies as a working condition fringe benefit. (IRS Treasury Regulation 1.61-21(a)(2)).
In order for expenses to be excludable from compensation income as a working condition fringe benefit, they must be:
- bona fide business expenses which are relatively clear; and
- sufficiently documented.
Substantiation of bona fide business expenses is critical. The following questions should be answered when substantiating expenses:
- How much?
- Where and when?
- Why? What is the business purpose?
- Who is involved? What is the business relationship?
In order for expenses to be sufficiently documented, IRS Treasury Regulation 1.274-5T(c) requires two types of records to be maintained:
- a summary of expenses (diary, log, statement of expense, trip sheets, or other similar record) sometimes called an expense voucher, and
- documentary evidence (such as receipts).
Together, these records must establish the elements of amount, time, place, and business purpose (and for gifts and entertainment – business relationship of recipient or persons entertained) for each expenditure.
All of this documentation should be collected and filed as support for the exclusion of fringe benefits in W-2 income. If the record keeping requirement is not satisfied, the employee will be taxed on the entire benefit received.
3.6 Fringe Benefits Received from Third Parties
For a fringe benefit to be taxable, it need not be furnished directly to the employee by the institution, as long as the benefit is provided in connection with the performance of services for the institution. Thus any benefit received by an employee, or a member of their family, from a third party in connection with the performance of services for the university/agency shall be treated as taxable income for withholding and reporting purposes if the benefit is part of the employment contract, contemplated during the employment process, or provided by the third party through an arrangement with the institution. For example, an automobile provided to a university employee by an automobile dealer may be considered to have been provided in connection with the performance of services for the university. If the benefit was contemplated during the employment process or was provided by the third party through an arrangement with the institution, then the value of the personal use of the automobile is includable in the employee’s gross income. (See section 3.8). If the use of the automobile results from the unilateral initiative of the third party to promote its own business interests, then, although the employee may have income tax consequences, the institution has no reporting responsibility with respect to that automobile. (IRS Announcement 94-112).
3.7 Gifts, Awards, and Other Presentations
Cash and cash equivalents, including gift certificates and use of a charge or credit card, are considered taxable income to the employee regardless of the value. Cash gifts funded by third parties are also considered taxable income if the gift is provided in connection with the employee’s performance of services for the institution (see section 3.6 above).
Gifts, awards, and other non-cash presentations are generally considered taxable income to the employee unless considered de minimis (see section 3.7.B) or an employee achievement award (see section 3.7.C).
Expenditures for gifts and awards described below apply to institutional fund sources. State funds may be used for employee awards under specific and stricter restrictions.
See Appendix A for a matrix which can be used to assist in determining the taxability of gifts, awards, and other presentations.
3.7.B De Minimis
De minimis fringe benefits are those that are both low in cost and given on an infrequent basis. For the A&M System’s purposes, gifts, awards, and presentations costing $100 or less will generally be considered de minimis. In addition, the frequency of presentations should be determined on an individual employee basis (no more than two times per year). Flowers, books, fruit baskets, plaques, certificates (not gift certificates), or similar items given for a special purpose such as family death or illness, recognition of special effort, or outstanding performance may be excepted from the $100 ceiling, with adequate documentation supporting exclusion from income. Cost and frequency must still be considered and explained in documentation concerning these types of items. Departments should refer special circumstances or questions to the Member business office and the System Office of Budgets and Accounting for further determination if necessary.
3.7.C Employee Achievement Awards
The IRC Section 274(j)(3) defines “employee achievement awards” as tangible personal property, which is transferred to the employee for length of service achievement or safety achievement. Each must be awarded as part of a meaningful presentation and should not be disguised compensation. Employee achievement awards not given under a qualified plan (see section 3.7.C.2 below) may not exceed $400 (when added to the cost of all other awards made to such employee which are not qualified plan awards) per employee during a calendar year to be excluded from taxable wages to the employee. (IRC Section 274(j)(2); IRS Proposed Treasury Regulation 1.274-9). “Qualified plan” employee achievement awards when added to the cost of all other employee achievement awards made to such employee (including employee achievement awards which are not qualified plan awards), are not taxable up to $1,600 per employee during a calendar year. (IRS Proposed Treasury Regulation 1.274-9).
3.7.C.2 Qualified Plan Defined
The term “qualified plan award” means an employee achievement award given as part of an established written plan or program of the taxpayer which does not discriminate in favor of highly compensated employees. (IRC Section 274(3)(B)).
3.7.C.3 Length of Service Awards
To be considered a length of service award, the employee cannot be presented the award if they have been employed for less than 5 years. Also, the length of service awards must be given at least five years apart to qualify as nontaxable. (IRC Section 274(j)(4)).
3.7.C.4 Safety Achievement Awards
An item shall not be treated as a “safety” award if more than 10 percent of the eligible employees of the employer receive the award during the taxable year, or such item is awarded to a manager, administrator, clerical employee, or other professional employee. If more than 10 percent of the employees receive safety awards, those awards presented to eligible employees before the 10 percent is exceeded are deemed to have received a nontaxable safety award. (IRS Proposed Treasury Regulation 1.274-9).
3.7.D Retirement Gifts
Retirement gifts may be excluded from income as length of service awards or as de minimis fringe benefits. To qualify as a length of service award, the retiree may not have received a length of service award during the previous five years. Retirement gifts proportionate to the retiree’s length of service may be excepted from income as de minimis, without regard to the $50 ceiling. Documentation of the relationship between the retiree’s length of service and the value of the gift is essential. (IRC Section 274(j)(4)).
Universities sometimes provide certain employees with automobiles that can be used for both business and personal purposes. The value of an automobile can be excluded from an employee’s income only to the extent that it is used in the performance of their employment-related duties. The value of any personal use of the vehicle must be included in the employee’s gross income, unless the personal use is merely incidental to the employee’s job-related duties, in which event the personal use can be excluded as a de minimis fringe benefit. (IRS Treasury Regulation 1.61-21(d)). Remember, to qualify as a de minimis fringe benefit the value must be small and the occurrence infrequent. Commuting mileage would fail to qualify as infrequent. If the value of the employee’s personal use is to be included in gross income, the amount is generally determined under either annual lease value tables or standard cents-per-mile rates established by the IRS. However, the standard cents-per-mile method cannot be used for higher-priced autos. The FMV of the auto when first made available to the employee cannot exceed an inflation-adjusted figure. (See IRS Treasury Regulation 1.61-21(e)(1)(iii)). For autos first made available to employees for personal use in the calendar year 1998, the figure is $15,600. Once the annual lease value or cents-per-mile method is adopted by an employer for any particular car made available to an employee, no switching to an alternative valuation method is allowed in subsequent years unless one of the rules is no longer available based on the facts of the situation. If a different car is provided to the employee, the valuation method may be changed, except where the replacement car is provided for the primary purpose of reducing taxes. (IRS Treasury Regulation 1.61-21(d)(5)(v) and (e)(5)(v)).
3.8.B Annual Lease Value
The annual lease value of an automobile is computed by first determining the fair market value of the automobile on the first date it was made available to any employee for personal use. (IRS Treasury Regulation 1.61-21(d)(2)). Under a safe harbor provision, the employer’s cost can be substituted for FMV, provided certain conditions are met. (IRS Treasury Regulation 1.61-21(d)(5)(ii)(A)) (See section 3.8.C below). Once the FMV is established, the Annual Lease Value Table, prepared by the IRS, is consulted to determine the annual lease value that corresponds to the FMV. The annual lease values include the FMV of maintenance and insurance for the automobile, but do not include the cost of gasoline provided by the employer. The fuel provided can be valued either at its FMV or at 5.5 cents per mile for all miles driven within the United States by the employee. The annual lease value is then multiplied by a personal use percentage to determine the taxable value. See section 3.8.D for a discussion of business versus personal miles. Also, see the Annual Automobile Lease Value Table and Fringe Benefit Compensation Worksheet which calculates the personal auto use inclusion.
Where an employer-provided automobile is continuously available to the employee for periods of 30 days or more, but less than an entire calendar year, the value of the availability of the automobile is determined by using a prorated annual lease value, computed by multiplying (a) the annual lease value by (b) the number of days of availability divided by 365. If an employee is on vacation or incurs other personal time periods of which the car was not used, this time is still considered time of which the car is available to the employee and should be included in the “number of days of availability” in the formula. (IRS Treasury Regulation 1.61-21(d)(4)(i)).
If the employer-provided automobile is continuously available to the employee for at least one but less than 30 days, the value of the use of the automobile is (1) its “daily lease value” or (2) the prorated annual lease value for a period of availability equal to 30 days, whichever is the lower value for the use of the automobile. The daily lease value is calculated by multiplying (a) the automobile’s annual lease value by (b) four times the number of days of the automobile’s availability divided by 365. (IRS Treasury Regulation 1.61-21(d)(4)(ii)).
3.8.C Safe Harbor Provision
The safe harbor value of an automobile owned by the employer is the employer’s cost of buying it (including sales tax, title and other expenses attributable to the purchase), provided that the purchase is made at arm’s length.
The safe harbor value of an automobile leased by the employer is either:
- the manufacturer’s suggested retail price less 8% (IRS Treasury Regulation 1.61-21(d)(5)(ii)(C));
- the retail value of the automobile as reported in a nationally recognized publication that regularly reports new or used automobile retail values (IRS Treasury Regulation 1.61-21(d)(5)(ii)(C)); or
- the manufacturer’s invoice (including options) price plus 4% (Notice 89-110, 1989-2 CB 447).
Option three can only be used for vehicles provided after December 31, 1988. Note, if one of these safe harbor methods is improperly used, the regulations say the fair market value of the vehicle fringe benefit must be computed under the general valuation rule. (IRS Treasury Regulation 1.61-21(c)(5))
3.8.D Business versus Personal Mileage
Properly substantiated employment-connected business mileage is a working condition fringe benefit not includable in an individual’s wages. (IRS Treasury Regulation 1.132-5). By contrast, personal mileage must be treated as wages and subject to FICA withholding. (IRS Treasury Regulation 1.61-21(a)(1)).
The trip from the employee’s home to his regular place of employment, and back, is commuting. Commuting is nondeductible personal travel. Personal mileage must be treated as wages and is subject to FICA withholding.
3.8.D.2 Overnight Trips
An employee who drives away from home on an overnight trip that is undertaken primarily for business is engaged in business driving, even if there is some personal element to his/her trip. However, if the trip is undertaken primarily for personal reasons, the mileage is not business related even if the employee engages in some business activity while away from home. (IRS Treasury Regulation 1.162(b)(1).
3.8.D.3 Travel Between Two Business Locations
If the travel is between two local business locations, it is considered business travel. (IRS Revenue Ruling 55-109).
If the university/agency provides a residence for an employee, the tax law (IRC Section 119(a)) specifically excludes from gross income the value of the housing furnished if the following three requirements are satisfied:
- the employee is required to accept such housing as a condition of employment;
- the housing is on the business premises of the university/agency; and
- the housing is furnished for the convenience of the university/agency.
The failure to meet any one of these conditions will render this exclusion inapplicable, thereby causing the value of the housing to be included in the employee’s income. (IRS Treasury Regulation 1.119-1(b)).
The Supreme Court has held that IRC Section 119 does not cover cash payments of any kind. Thus housing allowances cannot be excluded from taxable income.
If the university/agency gives an employee the choice between living in certain employer-provided housing and receiving a cash allowance in addition to his regular salary, then the housing is not excludable from the employee’s income even if the employee accepts the housing in kind. (IRS Treasury Regulation 1.119-1(e)).
3.9.B Condition of Employment Test
The “condition of employment” test requires the employee to accept the housing in order to enable him to properly perform the duties of his employment. The university/agency needs to show either that the residence is necessary to the performance of the employee’s duties or that the residence is necessary to allow the employee to be available for university/agency business at all times. The test is generally met if, based on the manner in which the institution conducts its educational activities, the housing is necessary for the employee to be available extended work hours (i.e. on-campus meetings, fund-raising activities, alumni events). The employee’s acceptance of housing need not be included in the written employment contract, so long as the proper performance of the employee’s duties practically requires that they live in the university/agency-provided residence.
3.9.C Business Premises of the Employer
The second test — that the housing must be on the business premises of the employer — is obviously met when the housing is physically located on campus. An issue sometimes arises as to whether off-campus housing meets this test. If the off-campus housing either constitutes an integral part of the university/agency’s operations or is a place where the employee performs a meaningful portion of his/her duties, it may qualify as “on the business premises”. The duties performed by an employee at off-campus housing must be significant and not merely incidental in order for the housing to be treated as “on” campus. For example, in a recent court case (Winchell v. United States), a college provided its president with a residence located four miles from the main campus. The president entertained business guests and occasionally held meetings, made telephone calls, and conducted college-related business in the residence. The court held that these infrequent activities did not constitute an adequate portion of employment-related activity to find that the off-campus residence constituted a “business premises” for purposes of the housing exclusion. (IRS Treasury Regulation 1.119-1(c)).
3.9.D Convenience of the Employer
The “convenience” of the employer test requires a direct relation between the housing that is furnished to the employee and the business interest of the university/agency. This test has received relatively little emphasis in the decided cases because the “condition of employment” and the “business premises” tests are the foci of most of the analyses. If these two tests are satisfied, the courts have always concluded that the housing was also furnished for the convenience of the employer. Note that there is no requirement that housing be furnished primarily for the employer’s convenience – the requirement is only that convenience to the employer exists. (IRS Treasury Regulation 1.119-1).
3.9.E Partial Exclusion for University/Agency -Provided Housing
Because of concerns raised by universities as a result of certain court cases, Congress enacted a special provision that provides a partial exclusion for university/agency-provided housing. This provision limits the amount of housing benefits that will be included in an employee’s gross income to 5% of the housing’s appraised value. A president or other employee of an educational institution will qualify for the 5% limitation if the housing constitutes “qualified campus lodging,” which is housing that is “located on, or in the proximity of” the campus and is furnished for use as a residence. Thus, this provision partially alleviates income recognition for off-campus housing that does not meet the “on the business premises” test. (IRC Section 119(d)(1)).
3.9.F Factors to be Considered
Factors, which should maximize the prospects for successful claiming of IRC Section 119(a) exclusion, include:
- The residence should be owned or rented by the university/agency.
- A document should exist — preferably an employment contract — requiring the employee to live in the residence and specifying university/agency-related duties expected to be performed there.
- An executive’s residence (such as a university president) should contain special facilities that enhance the ability to perform university/agency duties in the residence. Office facilities are desirable to indicate that university/agency work is performed on the premises but, alone, may be insufficient to demonstrate that the residence is necessary to the performance of the duties. Special facilities may include an oversized dining room, conference/seminar room, and communications devices.
- The executive should actually perform substantial university/agency-related duties in the residence. These activities should be documented, however informally. Guest books identifying events and the guests, and social calendars scheduling and detailing various events, will be helpful in documenting the special uses of the residence. The required events must be substantial, regular, and frequent.
3.9.G Resident Advisors
Resident advisors (RAs) are usually required to live in the dormitory in which they are employed as a resident advisor. As stated above in section 3.9.A, the value of lodging furnished to an employee shall be excluded from wages if the three requirements are met. If the exclusion from wages is not taken (perhaps due to financial aid circumstances) and the university/agency compensates the RA, then the compensation must be included in taxable wages. Also note if the RA has an option to receive either additional compensation for the lodging or the lodging itself, then the amount is NOT excludable from wages under IRC Section 119 (see section 3.9.A). Also, see section 3.11.C.3 on meals provided to a resident advisor.
3.10 Moving Expense Deduction
Amounts received by an employee as payment for, or reimbursement of, moving expenses which are attributable to employment must be included in gross income as compensation for services, except where deductible as qualified moving expenses. (IRC Section 132(a)(6)). Qualified moving expenses are:
- travel (one trip, including lodging but not meals) to the new residence (IRC Section 217(b)(1)(B)) The travel cost of only a single trip of the employee and members of his/her household is allowed, but they needn’t travel together or at the same time. (IRS Treasury Regulation 1.217-2(b)(4)). Lodging expenses for the day the employee arrives in the new area, and the cost of lodging in the area of the old home (within one day after employee couldn’t live in the old home because the furniture was moved), can also be excluded from income. However, temporary living expenses in the new area must be included in income. ; and
- transportation of household goods and effects (IRC Section 217(b)(1)(A)). The deductible expenses of moving household goods and personal effects include the costs of packing, crating and transporting, storing and insuring (for any 30-day period after the move), connecting and disconnecting utilities, and shipping the car and household pets. (IRS Treasury Regulation 1.217-2(b)(3)).
Two options are available in regards to withholding. The university/agency may either include the total moving expenses in income and withhold on only the non-deductible portion, or include only the non-deductible portion of expenses in income and withhold.
To qualify as a moving expense, the distance from the old residence to the new principal place of work must be at least 50 miles more than the distance from the old residence to the old principal place of work. Where an employee didn’t have a former place of work, the distance from the old residence to the new principal place of work must be at least 50 miles. (IRC Section 217(c)(1)).
No deduction for moving expenses is allowed unless the employee satisfies the 39-week requirement. Under the 39-week requirement, the individual must be a full-time employee for at least 39 weeks in the general location of his new principal place of work during the 12-month period immediately following his arrival at that location. Temporary absences from work because of illness, strikes, shutouts, layoffs, and natural disasters do count as full-time employment. (IRC Section 217(c)).
If the individual is prevented from satisfying the condition because of a transfer for the benefit of the employer, the 39-week requirement cannot bar the deduction. (IRC Section 217(d)(1)). The exception applies only to a transfer that is beyond the control of the employee, and not one instituted by the employee. For example, a transfer was not for the employer’s benefit where the taxpayer went on leave without pay status to obtain a master’s degree; thus, the 39-week requirement must still be satisfied.
Moving expenses must be incurred within a year from the date the employee first starts working in the new location. However, a postponement of the move for more than a year for a reason such as to allow the employee’s child to finish grade school or high school education at the old area is permissible. (IRS Treasury Regulation 1.217-2(a)(3)).
For calendar year 1997, the employer must furnish the employee with a detailed breakdown of any reimbursements or payments on IRS Form 4782. The employee’s W-2 should be consistent with the Form 4782. The reimbursements or payments that are excludable shouldn’t be included in wages and are not subject to withholding, but they should appear in Box 13 as Code P on the W-2.
After calendar year 1997, the IRS has announced that Form 4782 will be eliminated and, as a result, that reporting qualified moving expenses on Form W-2 will be simplified for employers and employees, effective for 1998 Forms W-2. However, employers may continue providing similar information to employees in any format they wish if they deem it helpful to employees. (IRS Announcement 97-77).
For 1998, the IRS instructions for employers preparing Forms W-2 state:
- Qualified moving expenses an employer pays to a third party on behalf of the employee (e.g. to a moving company) will not be reported at all on Form W-2;
- Qualified moving expense reimbursements an employers pays directly to an employee will be reported in Box 13 of Form W-2 and will be identified using Code P. (Currently, all qualified moving expense reimbursements are identified with Code P, regardless of whether or not they were paid directly to the employee.); and
- Other moving expense reimbursements (so-called nonqualified expenses), whether or not paid directly to a third party, will continue to be included in wages (Form W-2, box 1) and are subject to income tax withholding and social security and Medicare taxes.
IRS Publication 521 “Moving Expenses” provides a useful reference for additional information needed.
Special Rules for Foreign Moves:
In the case of a foreign move, the deductible moving expenses include reasonable expenses:
- of moving household goods and personal effects to and from storage; and
- of storing such goods and effects for part or all of the period during which the new place of work continues to be the taxpayer’s principal place of work.
A foreign move is the start of work by the individual at a new principal place of work outside the United States. Foreign moves include: (1) a move from the U.S. to a foreign country; (2) a move from one foreign country to another; and (3) a move within a foreign country. A move from a foreign country to the U.S. is not included. (IRS Treasury Regulation 1.911-3(e)(5); IRS Treasury Regulation 1.911-6(b)(1)).
3.11 Spousal Travel, Club Memberships, and Meals
During 1994, the IRS had sought to include all spousal and dependent travel, club memberships and dues, and 50% of business meals and entertainment as taxable fringe benefits includable in W-2 income. Subsequent regulations amended this “automatic” inclusion of these fringe benefits as taxable income and reverted to the former rules. (IRS Treasury Regulation 1.132-5(t)). Despite the return to the rules allowing bona fide business expenses to be excluded from W-2 income, a return to minimal documentation should not occur. The regulations and discussions regarding these fringe benefits have pointed out the IRS’s concern over this issue. Special attention needs to be placed on the documentation of business purpose (see section 3.5 above).
3.11.A Spousal Travel
IRS Treasury Regulation 1.132-5(t) generally provides that payment for travel expenses of an employee’s spouse traveling with the employee may be excludable from the employee’s business trip if for a bona fide business purpose and the employee substantiates the travel.
The history of rulings on this issue is clarifying what is not allowed more so than what is allowed. To increase the prospect for exclusion, the spouse should actually assist with business functions, represent the university/agency before the public (news media, contributors, and individuals/organizations), or assist in the planning of travel and meetings. Generally the cases disallowing the expenses of the spouse have involved factual settings where the “services” of the spouse were either nonexistent or “merely colorable to camouflage what for her were predominantly pleasure trips.” The IRS has ruled that minor business or incidental tasks such as typing and/or socializing at luncheons and dinners is insufficient (IRS Revenue Ruling 56-168).
The presence of the spouse must be essential, not just beneficial, to the employee being able to carry out his/her business purpose for the university/agency. If the intention of the spouse’s attendance can be proven it was not primarily for vacation purposes and that substantive business-related functions were performed while traveling, the expenses may be deductible even though socializing was part of the spouse’s services. Personal nature might be implied if dependent children accompany their parents and thus cause the spousal travel exclusion to be jeopardized. Due to the IRS’s pressure on spousal travel, detailed records should be kept on the spouse’s expenses as well as their business-related responsibilities.
The substantiation maintained should be able to answer the questions mentioned above in section 3.11. For example, an employee is accompanied by their spouse on a business trip. First, the spouse’s attendance must be proven as essential to the employee being able to carry out their business purpose. This documentation should be in writing and obtained by the department. Next, receipts should be collected showing:
- How much? (i.e. the cost of the meal, transportation, and the increased price of the hotel room due to the spouse’s accompaniment)
- Where and when? (i.e. the restaurant and hotel names including city location and the dates involved as well as date of departure and return and the number of days spent on business)
- Why? What is the business purpose? (i.e. explanation should be written on the back of the receipts as to the reason for the trip and the meal)
- Who is involved? What is the business relationship? (i.e. again on the back of the receipts or on a separate detail sheet, explanation should be written regarding the people in attendance and their connection to the employee’s business trip)
If the spouse’s travel does not qualify as business, the employee’s taxable fringe benefit is the increase in cost. For example, hotel rates for double occupancy usually are not twice the single occupancy rates. To determine the incremental cost, the employee must obtain the single occupancy rate and subtract that from the double occupancy rates. However, as in the case of rental cars, no incremental cost is involved and the spouse in effect travels for free.
3.11.B Club Memberships and Dues
“Club” memberships and dues are those clubs organized for business, pleasure, recreation, or other social purpose and may include country clubs, golf and athletic clubs, airline clubs, hotel clubs, and clubs operated to provide meals under circumstances generally considered to be conducive to business discussion. (IRC 274 (a)(3); IRS Treasury Regulation 1.274-2(a)(2)(iii)(a)). Organizations which are not treated as clubs organized for business, pleasure, recreation, or other social purpose include professional organizations, business leagues, trade associations, chambers of commerce, boards of trade, real estate boards, and civic or public service organizations. (IRS Treasury Regulation 1.274-2(a)(2)(iii)(b)).
The business portion of club memberships and dues are not includable in W-2 income. (IRC Section 162). Sufficient documentation is critical in supporting the business portion. Records should be kept as to the date(s) attended, what business relationships were initiated and/or maintained, and the actual business purpose. For example, the university/agency pays for local country club dues for an employee. The employee should record dates in which he/she attended the meetings, who was involved, what topics were discussed, and how the employee relates his/her use of the facility to their ability to perform their role as an employee of the university/agency.
An example of a “log” sheet is provided to assist in the employee’s recordkeeping of business/personal use of club dues (see Social Club Dues Paid by Employer – choose landscape option to print). It simply requests the name of the social club, date(s) of use, personal/business use, amount of expenditure, business reason for activity/expenditure, and name and business relationship of individual(s) involved. This report should be used to calculate the personal portion of dues includable in W-2 income.
The personal portion of club/memberships dues will be includable in W-2 income and subject to payroll taxes, both social security and income tax withholding. Also note, personal use of “institutional memberships” (memberships purchased in the university/agency name rather than an employee’s name) are includable in the income of the employee who benefits from the membership.
3.11.C Meals Provided by Employer
The IRS’s disallowance of 50% of business meals and entertainment expenses as a deduction for the employer was not intended to result in 50% of business meals and entertainment expenses being included as taxable compensation to the employee. As long as the expenses are bona fide business meal and entertainment expenses and are substantiated, the amounts will not be included in W-2 taxable income. (IRC Section 162).
For those employees who are entitled to receive reimbursement for actual amounts expended for meals, documentation should be maintained with receipts showing dollar amounts expended and explanation on back as to time, place, purpose, and individual(s) involved. This does not address reimbursement for meals relating to travel status (i.e., overnight). Policies pertaining to travel status and alcohol should be followed and can be found in System reimbursement policy. (See System Guidelines for Disbursement of Funds located in the Office of Budgets and Accounting Section).
3.11.C.2 Employer-Operated Eating Facility
The value of meals provided by the university/agency to its employees can be excluded from the employees’ gross income as a de minimis fringe benefit, provided that the dining facility 1) is owned or leased by the employer, 2) is operated by the employer or by a food services business under contract to the employer, 3) is located on or near the school’s premises, 4) provides meals either during, or immediately before or after, the employees’ workday, and 5) the annual revenue from the facility equals or exceeds its direct operating costs (IRS Treasury Regulation 1.132-7(b)). In addition, the dining facility must not discriminate in favor of highly compensated employees, such as officers, directors, or trustees of the institution. (IRS Treasury Regulation 1.132-7(a)).
All meals furnished on the business premises of an employer to employees shall be treated as furnished for the convenience of the employer if more than half of the employees at the business premises are furnished meals. (IRC Section 119(b)(4))
If an employer operates an eating facility that satisfies all the above rules except that it either does not generate revenue equal to at least direct operating costs, or it is discriminatory, the discounts on the meals provided at the eating facility can be valued under a special valuation rule. (IRS Treasury Regulation 1.61-21(j)). Under this valuation rule, the total fair market value (total meal value) of all meals provided at the facility is presumed to equal 150% of the direct operating costs of the facility. The fair market value of an individual meal is then equal to the price charged for the particular meal multiplied by a fraction. This fraction is the total meal value over the gross receipts of the facility. However, this allocation formula does not apply if some groups of employees pay discount rates for meals. In such a case, the total meal subsidy (total meal value less gross receipts) may be allocated among employees in any manner reasonable under the circumstances.
3.11.C.3 Resident Advisors
If lodging in the dormitory is required as a condition of employment, then IRS Treasury Regulation 1.119(a)(2) can be applied to meals provided at no charge. This regulation allows an exclusion from wages for the value of any meal furnished without charge to the employees who reside (as a condition of employment) on the employer’s premises. (See section 3.9.A and section 3.9.G above).
3.12 Personal Use of University/Agency Facilities
3.12.A Recreational Facilities
Many universities provide free or discounted use of recreational facilities to their employees. These recreational facilities can include athletic facilities, golf courses, natatoriums, etc. It is generally possible to exclude from gross income the value of the employee’s personal use of these recreational facilities in a number of ways —
- as a no-additional-cost service fringe benefit,
- as a qualified employee discount, or
- under a special exclusion for an “employer-provided athletic facility.”
The no-additional-cost service exclusion will apply if the employee’s use of the facility does not result in any additional cost or foregone revenue for the university/agency. This will generally be true so long as general membership in the facility is not limited due to capacity.
The qualified employee discount fringe benefit exclusion can apply if membership fees are discounted not more than 20%.
Under the special exclusion for an employee’s use of an “employer-provided athletic facility,” the value placed on the use of the facility is not included in the employee’s gross income if:
- the facility is located on the employer’s premises;
- the facility is operated by the employer; and
- substantially all of the use of the facility is by employees or their families.
The third test will often be difficult to meet because use of the facility by non-employee students or the general public will disqualify the facility.
3.12.B Personal Use of University/Agency Vacation, Retreat, or Camping Facilities
Some universities provide a vacation home, camping facility, or other retreat facility to certain employees for their personal use. An employee’s personal use of such facilities, even for a few days, will not qualify as a de minimis fringe benefit, and no other fringe benefit provisions apply to allow the employee’s personal use to be excluded from gross income. Therefore, an employee must recognize gross income to the extent of the value of any personal use of such facilities.
3.13 Complimentary and Discounted Tickets to Athletic and Entertainment Events
Practices regarding distribution of complimentary tickets have been identified by the IRS as a subject of audit inquiry. Auditors will inquire about complimentary tickets provided to any university function where tickets are sold to the general public, including athletic, artistic and entertainment events, as well as fees charged for the use of university recreational and athletic facilities.
If an employee is required to use the complimentary tickets to entertain persons having a business relationship with the university, then the tickets may be excluded as a working condition fringe benefit. (See section 3.5) (IRC Section 162). This exclusion would not, however, exclude the value of any tickets that are used to entertain the employee’s spouse, family members, or personal acquaintances. Also, in order to qualify as a working condition fringe benefit, the employee must maintain adequate records showing that the tickets were, in fact, used for business purposes.
Universities may also provide employees with discounted tickets to athletic, entertainment, or cultural events. Historically, the IRS has treated tickets as “products” under the qualified employee discount rules (see section 3.4) and has not taxed the employee if the tickets were sold at no less than cost. Recently, however, IRS agents have been treating tickets as “services,” which would limit the tax free discount amount to 20% of the tickets’ normal selling price. Thus under section 132(c) of the Code, employees may receive up to a 20-percent discount for the purchase of tickets without recognizing taxable compensation.
3.14 Miscellaneous Fringe Benefit Exclusions
3.14.A Flights on Institution-Owned or Chartered Aircraft
The value of flights taken by an employee for personal purposes on an institution-owned or chartered aircraft must be included in the employee’s income. (IRS Treasury Regulation 1.61-21). Similarly, if family members or friends of the employee use an aircraft for personal purposes, the value of such use will be included in the employee’s gross income. The value is determined by a special aircraft valuation formula set forth in IRS Treasury Regulation 1.61-21(g) and IRS Treasury Regulation 1.61-21(h).
Of course, not all uses by an employee of an institution-owned or chartered aircraft are for personal purposes. For instance, employees may use aircraft to travel between different campuses or to attend fundraising, alumni, or other official events. These uses are not included in an employee’s income because the uses are generally treated as working condition fringe benefits – that is, the cost of the flights would be deductible by the employee if paid for personally.
3.14.B Educational Assistance Programs
Currently, this section is not applicable due to a recent Texas Attorney General Opinion that an institution of higher education has no authority to waive tuition on required fees for employees. However, it is included for possible future applicability.
Many universities/agencies have adopted educational assistance programs covering some or all of the tuition costs of their employees. The maximum amount of educational assistance that an employee can receive tax-free during any calendar year is $5,250. (IRC Section 127(a)(2)). The excess over this amount is includable in compensation and subject to FICA and federal withholding. For purposes of this $5,250 limit, the employee must take into account all reimbursements received from employers for educational assistance, as well as the fair market value of all educational assistance paid or provided directly by the employer.
The term “educational assistance” means the 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). (IRC Section 127(c)(1)(A)). Where the university is the employer, this would include any amounts the employee is exempted from paying which would normally be paid by a student.
The Ticket to Work and Work Incentives Improvement Act of 1999 signed into law on December 17, 1999 extended this provision through December 21, 2001.
3.14.C Tuition Reduction Programs
Under a tuition reduction program, an institution reduces its own tuition for the benefit of an employee, or the employee’s spouse or dependent. Such tuition reductions will qualify as tax-free scholarships to the extent the reduction consists of tuition, fees, books, supplies, and required equipment. (IRC Section 117(d)). Amounts for room, board, or incidental expenses, however, are included in the employee’s gross income. A qualified tuition reduction plan will only be nontaxable to the employee if the plan does not discriminate in favor of highly compensated employees. In addition, the exclusion generally only applies to undergraduate education. A tuition reduction for graduate-level work will qualify for the exclusion only if the individual receiving the reduction is a graduate student who is engaged solely in teaching or research activities.
3.14.D Life Insurance
Group-term life insurance provided by the university/agency to its employees is, within certain limitations, not taxable to the employee. (IRC Section 79). Specifically, an employee can exclude from gross income the cost of up to $50,000 in group-term life insurance on the employee’s life under a policy carried directly or indirectly by the employer. This exclusion applies regardless of the fact that the employee can designate the policy’s beneficiary. The cost of employer-provided coverage in excess of $50,000, however, must be reported as gross income.
3.14.E Qualified Parking
If an employer pays for an employee’s parking and the amount is no more than $175 per month in tax years beginning after 1998, the parking may be excluded from compensation as a fringe benefit. To be a non-taxable fringe benefit, the parking provided to an employee must be on or near the business premises of the employer. The employer may either pay on behalf of the employee or reimburse the employee. Also, beginning in 1998, the monthly exclusion for qualified parking benefits can be offered to employees as an alternative to cash. (IRC Section 132(f)(d)). This means the employee may choose whether to accept the fringe benefit or receive the equivalent in cash. Under prior law, the mere ability to choose between benefits and cash nullified the exclusion. Please note, in no way will the fringe benefit be excluded from taxable income if the parking is provided in lieu of compensation, and not in addition to compensation, which otherwise would have been includable in the gross income of the employee.