Now is a good time to update employee expense reimbursement plans, given changes brought about by the Tax Cuts and Jobs Act (TCJA), effective beginning in 2018. The new law disallows tax deductions for some commonly reimbursed business expenses.
Why is this important if your organization does not pay taxes? It is important because now many of these reimbursements may be taxable to your employees. Even if your organization has no unrelated business income and is unconcerned about the disallowed income tax deductions, these items no longer meet the accountable plan requirements and, as such, they do not qualify as tax-free reimbursements to the employees. Your organization may either discontinue offering the reimbursements or treat them as made under a non-accountable/taxable plan.
Reimbursements of expenses made to employees under a written accountable reimbursement plan are excluded from the employees’ gross income. To qualify for this exclusion, these three criteria must be met:
- The reimbursed expense must be a deductible business expense to the employer;
- The employee must submit receipts showing the time, place, amount, and business purpose of the expense; and
- The employee must return any excess of an advance over the substantiated expenses or the excess is treated as taxable compensation to the employee.
Non-Deductible Expense Reimbursements
While the TCJA did not change the rules for accountable plans, some expense reimbursements no longer qualify for exclusion under an accountable plan because the TCJA disallowance of the deduction causes the expense reimbursement to fail to meet the first criterion above. These expenses are:
With some limited exceptions, there is now no deduction for entertainment, amusement, or recreation regardless of whether there is a business purpose. A deduction is still allowed for expenses related to recreational, social, or similar activities primarily for the benefit of employees (other than highly compensated employees).
Meals considered entertainment or provided as part of an entertainment ticket package are now nondeductible.
The TCJA disallows a deduction for qualified transportation fringe benefits unless provided for the safety of employees. But see Important Note below for possible exclusion from employees’ income.
Dues to any social, athletic, or sporting club are not deductible regardless of any business purpose. The TCJA also disallows a deduction for dues paid for membership in any club organized for business, pleasure, recreation, or other social purpose.
Important Note — Entertainment, meals, and transportation expenses may still be excluded from the employees’ wages, even though they are no longer a deductible expense to the employer, provided they qualify for the fringe benefit exclusion under Code Section 132. Code Section 132 excludes from gross income certain fringe benefits such as the “working condition fringe,” “de minimis fringe,” and the “no-additional-cost service” fringe. A discussion of these and other fringe benefits is outside the scope of this article.
Non-Accountable Plan Reimbursements
If there is a bona fide business purpose for the expenses, even though these expenses are nondeductible, you can reimburse them. The reimbursements will be treated as separate non-accountable plan reimbursements taxable to the employee (unless they qualify for the fringe benefit exclusion under Code Section 132). If there is no bona fide business purpose, reimbursement of such expense may disqualify the entire accountable plan, in addition to being taxable to the employee. If there is no bona fide business purpose, do not reimburse the employee for the expense.
An error in treating a reimbursement as nontaxable when it should be taxable can have dire consequences for an exempt organization. If the recipient is a disqualified person, such as an officer or director of the organization or a family member of an officer or director, and the amount should have been included in taxable compensation, the amount will be an excess benefit subject to an excise tax and the excess compensation must be paid back to the charity. Errors may be corrected on a Form 941-X.
Review Your Plan
It is a very good time to review and update expense reimbursement plans so that management can decide whether to continue to reimburse them and determine how to treat reimbursements on the employees’ W-2. Remember, even if your organization does not have any unrelated business income and is unconcerned about the disallowed income tax deductions, these items no longer meet the accountable plan requirements and, as such, they may not qualify as tax-free reimbursements to the employees. See your tax advisors if you have questions and perhaps have them review your accountable plan or reimbursement policy.
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