The enactment of the Tax Cuts and Jobs Act (TCJA) on December 22, 2017, brought about the most sweeping overhaul of the Internal Revenue Code (IRC) since 1986. Most of the changes took effect on January 1, 2018. This article covers the TCJA's impact on employer-provided fringe benefits and offers insights, based on conversations with employers across the country, on how the changes may influence employers' fringe benefit offerings in the years to come.
Relevant provisions: IRC sections 132(g) and 217; TCJA sections 11048–11049
Prior to the enactment of the TCJA, "qualified moving expenses" were excluded from an employee's income and deductible by the employer. Qualified moving expenses generally included the expenses incurred by moving personal belongings and persons from one's former residence to one's new residence.
The TCJA suspended the exclusion for qualified moving expenses paid or reimbursed by the employer and the corresponding employee deduction for unreimbursed moving expenses. Now any amount that an employer pays or reimburses must be reported as compensation for services and withheld upon (except with respect to certain active duty members of the armed forces). This rule applies whether the employee incurs the moving company expense directly (i.e., the employee contracts with the moving company, pays the moving company, and seeks reimbursement from the employer) or indirectly (i.e., the employer contracts with the moving company and pays the moving company for the benefit of the employee).
Though the TCJA suspended the deduction for qualified moving expenses, employers may continue to deduct amounts for employer-provided moving expenses as an ordinary and necessary business expense if the employer includes the amounts in the employee's taxable wages. The TCJA provisions take effect in 2018 and sunset at the end of 2025.
Employers are struggling to understand the impact that this provision may have on their relocation program budgets. To the extent an employer wants to make an employee whole for moving expenses, a gross-up may be considered so that the "net payment" amount equals the cost of the moving company expense. However, gross-ups can be costly. Alternatively, some employers are contemplating the use of one-time bonus payments (also taxable) to offset the relocation costs an employee may incur, while also controlling the program's cost.
Relevant provisions: IRC section 132(f); TCJA sections 11047 and 13304
Qualified transportation fringe benefits (QTFBs) include the provision of transit passes, qualified parking, transportation in a commuter highway vehicle, and qualified bicycle commuting reimbursements by an employer to an employee on a tax-free basis for purposes of commuting between the employee's residence and workplace.
While the costs associated with such benefits—whether paid directly, reimbursed, or taken through salary reduction arrangements—have afforded employers a deduction to this point, the TCJA has repealed the ability of employers to deduct the associated costs after December 31, 2017. This includes the employer deduction for QTFBs that are paid for by means of a salary reduction arrangement whereby the employee voluntarily elects to reduce his or her taxable compensation in exchange for the tax-free QTFB. Employers may still deduct expenses incurred that are necessary to ensure the safety of employees (e.g., late-night transportation) and business travel expenses.
Employees, on the other hand, still may elect to take a pre-tax salary deduction and/or exclude from income employer-provided transit passes, qualified parking, or transportation in a commuter highway vehicle. However, employees can no longer exclude qualified bicycle commuting reimbursements (up to $20 per month) from income for tax years 2018 through 2025.
Absent the ability to deduct the costs associated with QTFBs, employers are assessing the viability of such fringe benefits and pondering tax-advantageous alternatives, such as enhancing the compensation packages of employees who participate in such plans. The enhancement of compensation packages may be a deductible expense if the "ordinary and necessary" standard identified under IRC section 162 for salaries and other compensation is satisfied. In turn, employees could use the enhanced pay package to subsidize the costs associated with their purchase of transit passes, parking, or other commuting methods. However, certain employers in certain jurisdictions (e.g., New York City, San Francisco, and Washington, D.C.) are required by local law to offer employees a pre-tax deferral or employer subsidy to offset commuting expenses.
While the loss of the tax deduction will make QTFBs more expensive, we expect most employers to continue offering such benefits (including bicycle benefits, to the extent already offered) to stay competitive and comply with state and local laws.
For tax-exempt employers, where the loss of the deduction would have no relevance, the TCJA instead treats the funds used to pay for QTFBs as unrelated business taxable income (UBTI). Also, any costs associated with a tax-exempt employer's provision of an on-site gym for employee use will be subject to UBTI.
Employer-Provided Meals and Entertainment
Relevant provisions: IRC sections 119, 132(e), and 274(n); TCJA section 13304
Prior to the enactment of the TCJA, section 274(n) enabled employers to deduct 50 percent of expenses for business-related meals and entertainment, such as meals provided for the convenience of the employer or entertainment related to or associated with business. Effective January 1, 2018, the 50 percent deduction on entertainment expenses is repealed, regardless of whether the entertainment is business-related.
The TCJA extended the 50 percent deduction limitation to meal expenses that are excluded from an employee's income due to the de minimis fringe benefit rules. To qualify as a de minimis meal, the eating facility must be located on or near the employer's business premises (i.e., an employee cafeteria) and the revenue derived from the facility must, at a minimum, equal the direct operating costs. To meet these requirements without having to charge and process employee payments at the facility, some employers will impute an amount to each employee's income equal to his or her proportional share of the direct operating costs. However, beginning in 2026, expenses for meals either provided for the convenience of the employer or that meet the requirements of the de minimis fringe benefit rules will be fully nondeductible.
The tax exclusions for employees for employer-provided meals are unchanged by the TCJA. The TCJA also does not impact the employer's 50 percent deduction for meal expenses incurred by employees on work travel. However, because the TCJA eliminated the entertainment expense deduction, any expenses associated with an employer's provision of an on-site gym for employee use are fully nondeductible.
Employee Achievement Awards
Relevant provisions: IRC sections 74(c) and 274(j); TCJA section 13310
Prior to the TCJA, employers could, within limits, provide certain types of employee achievement awards on a tax-free basis. Employee achievement awards are items of tangible personal property that are provided as part of meaningful presentations to employees for length-of-service or safety achievements (e.g., pins, pendants, jewelry, plaques, or pre-selected catalog items after five and 10 years of service).
The TCJA maintains the current exclusion, with a minor change. The TCJA amended section 274(j)(3) to provide that tangible personal property does not include
- cash, cash equivalents, gift cards, gift coupons, or gift certificates (other than arrangements conferring only the right to select and receive tangible personal property from a limited array of such items pre-selected or pre-approved by the employer); or
- vacations, meals, lodging, tickets to theater or sporting events, stocks, bonds or other securities.
This change codified the guidance previously provided by the U.S. Department of the Treasury in section 1.274-3(b) of the regulations. In fact, the conference report to the TCJA provides that "[n]o inference is intended that this is a change from present law and guidance." Thus, this should not alter how employers treat their existing employee achievement award programs.
No Employee Deduction for Unreimbursed Business Expenses
Relevant provisions: IRC section 67; TCJA section 11045
The TCJA eliminates the ability of employees to deduct unreimbursed work-related expenses (e.g., unreimbursed business mileage) as miscellaneous deductions on their personal tax returns, effective for taxable years 2018 through 2025. Before the TCJA, employees could deduct their unreimbursed work-related expenses as miscellaneous itemized deductions, subject to the 2 percent adjusted gross income limit.
Employers that have reduced their own expenses (or are considering reducing their expenses) by not reimbursing certain employee expenses may reconsider doing so, now that employees will be unable to deduct unreimbursed business expenses on their personal tax returns.
How these changes will affect the provision of fringe benefits to employees remains to be seen. Though some of the TCJA provisions may be more impactful in driving employer fringe benefit policy changes, thoughtful design of compensation and fringe benefit policies and packages can strategically mitigate detrimental tax consequences to both employers and employees. As employers and employees grapple with how the TCJA will affect their finances, open lines of communication are necessary to ensure a smooth transition to the new rules promulgated by the sweeping tax reform.
This article was prepared for publication in the April 2018 issue of BLR's newsletter, "The Employer's Guide to Fringe Benefit Rules."
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.