Taxes and Employee Fringe Benefits

Fringe benefits may not be so fringe-y, so to speak, when it comes to taxes. What no human resources, payroll, or accountant wants is to be hauled into an IRS audit and sit there stammering or vainly trying to explain why you allowed one thing but the rules say another. Let’s let the IRS explain, from IRS publication 15-b:

“Any fringe benefit you provide is taxable and must be included in the recipient's pay unless the law specifically excludes it.”

The last six words are the operative portion of that sentence in terms of not being taxed, or taxed only partially, on a fringe benefit. The responsibility to know what’s what isn’t an employee’s: it falls to the aforementioned human resources, payroll and accounting administrators and professionals to make sure they understand the differences. Unfortunately, it’s not a simple matter of calling up a straightforward list and applying the easily-understood information appropriately.

The U.S. Constitution, including all 27 amendments, is 7,591 words long. IRS Publication 15-B on fringe benefits and taxation contains 22,731 words. And it’s not light reading. Let’s look for a moment just at cafeteria benefit plans, which enables employees to choose between receiving, as the IRS says,

“cash or taxable benefits instead of certain qualified benefits for which the law provides an exclusion from wages.”

Please note: the benefit is not necessarily taxable if the employee could have received cash or a taxable benefit in place of the benefit exempt from taxes.

Here are the cafeteria plan benefits that have taxation exclusions under the IRS rules:

• Accident and health benefits (but not Archer medical savings accounts (Archer MSAs) or long-term care insurance).
• Adoption assistance.
• Dependent care assistance.
• Group-term life insurance coverage (including costs that cannot be excluded from wages).
• Health savings accounts (HSAs). Distributions from an HSA may be used to pay eligible long-term care insurance premiums or qualified long-term care services.

There are 13 fringe benefits that do not qualify for a cafeteria plan tax exclusion. Here’s just a partial list:

• Employer-provided cell phones
• Transportation (commuting) benefits
• Educational assistance
• Meals
• Moving expense reimbursements
• Working condition benefits

There is a good deal more explanation beyond the above in Publication 15-B just in the cafeteria plan arena. There are about 20,500 words covering other fringe benefit and taxation issues. On the plus side, the IRS publication explains each subject individually, in sections. That makes things a bit more convenient, but there’s no percentage in guessing at these things. Contact your accountant today if you have questions regarding taxes on fringe benefits for employees.