Employee Fringe Benefits (Portfolio 394)

Tax Management Portfolio, Employee Fringe Benefits, No. 394-5th, discusses the substantive rules pertaining to various fringe benefits provided by an employer to employees, including the statutory framework for exclusion created by the 1984 Tax Reform Act and subsequent legislative changes and additions.

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Tax Management Portfolio, Employee Fringe Benefits, No. 394-5th, discusses the substantive rules pertaining to various fringe benefits provided by an employer to employees, including the statutory framework for exclusion created by the 1984 Tax Reform Act and subsequent legislative changes and additions.

This Portfolio discusses in detail the various categories of fringe benefits specifically addressed under §132 — working condition fringes, no-additional cost services, qualified employee discounts, de minimis fringe benefits, qualified transportation fringes, qualified moving expense reimbursements, qualified retirement planning services, and qualified military base realignment and closure fringe payments. It also considers the tax status of certain benefits addressed by specific statutory provisions such as §127 educational assistance programs and §129 dependent care assistance programs. Supplemental unemployment benefit trusts under §501(c)(17) also are covered. The Portfolio discusses the organizational and operational requirements for plans or programs providing these benefits, including the rules on withholding and employment taxes, as well as the “separate line of business” rules of §414(r).


William E. Elwood, B.S., Pennsylvania State University (1965); J.D., University of Pennsylvania Law School (1968); LL.M. (Taxation), Georgetown University (1975); also attended Universitãt zu Köln, Cologne, Germany (1963) and the Hague Academy of International Law (1967); formerly Technical Attorney, Tax Court Litigation Division, Office of Chief Counsel, Internal Revenue Service (1970-1974); and associated with Lee, Toomey & Kent, attorneys, Washington, D.C. (1974-1977); Tax Counsel and subsequently Assistant General Counsel, Communications Satellite Corporation, Washington, D.C. (1977-1985); Vice President and Tax Counsel, Primark Corporation, McLean, Virginia (1985-1987); Served as National Federal Tax Chairman, Tax Executives Institute (1984-1985); Corporation Department Editor, The Tax Times (1984-1987); Articles Editor, The Tax Lawyer (1976-1980); member of the District of Columbia, Michigan and Pennsylvania Bars; American Bar Association, Section of Taxation, and Metropolitan Detroit Bar Association.

Cynthia A. Moore, B.A., Alma College (1978); M.S.L., Western Michigan University (1979); J.D., University of Texas at Austin (1986); member of the Michigan Bar; American Bar Association, Taxation and Business Law Sections; and Oakland County Bar Association.


Detailed Analysis

I. Introduction and Overview

A. Types of Fringe Benefits

1. Current Provision of Property, Services or Cash

2. Future Cash Payments or Property Rights

a. Qualified Plans

b. Nonstatutory Deferred Compensation Arrangements

c. Statutory Cash or Deferred Compensation Arrangements

d. Stock or Equity Option Plans

e. Restricted Stock or Equity Plans

f. Phantom Stock or Unit Stock Plans

g. Stock or Equity Appreciation Rights

3. Benefits Provided Through Insurance

B. Tax Consequences of Fringe Benefits

1. Objectives

a. Current Benefits

b. Deferred Benefits

c. Insurance Benefits

2. Income Tax Consequences to the Employee

a. Inclusion in Income - General Rule and Exclusions

b. Time of Inclusion

(1) Current Inclusion Rule

(2) Exceptions Permitting Deferred Inclusion

(a) Unsecured Promise to Pay

(b) Income Recognition Statutorily Deferred

(c) Property Subject to Substantial Risk of Forfeiture

3. Income Tax Consequences for the Employer

a. Amount Deductible

b. Time of Deduction

(1) Current Deduction Rule

(2) Exceptions and Special Rules

(a) Unsecured Promise to Pay

(b) Property Subject to Substantial Risk of Forfeiture

(c) Special Rules

C. Tax Policy and Fringe Benefits

II. Statutory Rules for Incidental Benefits

A. Background

1. Attempts to Establish Uniform Rules

a. First Discussion Draft Regulations

b. Initial Legislative Response

c. Second Discussion Draft Regulations and Administrative Activities

2. The Tax Reform Act of 1984

3. Effect of Pre-1984 Act Authorities

B. Excluded Incidental Fringe Benefits - Section 132

1. Overview

a. General Rule of Inclusion

b. Statutory Exclusions

c. Regulations and Regulatory Authority

2. General Rules for Excludible Fringe Benefits

a. Working Condition Fringes

(1) Working Conditions Covered

(2) Requirements for Exclusion

(3) Permissible Recipients and Discrimination

(4) Special Rules and Specific Benefits

(a) Employer-Provided Transportation

(i) Company Car

(ii) Company Aircraft

(b) Office Decor and Administrative Support

(c) Employer-Provided Home Computers

(d) Professional Memberships, Dues and Publications

(e) Educational Assistance

(f) Security Arrangements

(i) In General

(ii) Transportation Security

(A) Substantiation of Need for Secure Transportation

(B) Amount of Transportation Security Exclusion

(C) Dependent Transportation Security

(g) Product Testing Programs

(h) Travel and Entertainment Reimbursements

(i) Outplacement Services

(j) Country, Social and Entertainment Club Dues and Memberships

(k) Spouse and Dependent Travel

(l) Miscellaneous Practices

(5) Excluded Benefits

(a) Flexible Spending Accounts

(b) Physical Examination Programs

(6) Accounting for Cash Reimbursements

b. No-Additional-Cost Services

(1) Services Covered

(2) Requirements for Exclusion

(3) Permissible Recipients and Discrimination

(4) Special Rules and Specific Benefits

(a) Travel Passes and Privileges

(b) Reciprocal Agreements

(c) Telephone Services

c. Qualified Employee Discounts

(1) Discounts Covered

(2) Requirements for Exclusion

(3) Permissible Recipients and Discrimination

(4) Special Rules and Specific Benefits

(a) Services that Qualify for Discount

(b) Method of Providing Discount

(c) Amount of Employee Discount

(d) Calculation of Gross Profit Percentage

(e) Excess Discount

(f) Leased Section of Department Store

d. De Minimis Fringe Benefits

(1) Benefits Covered

(2) Requirements for Exclusion

(3) Permissible Recipients and Discrimination

(4) Special Rules and Specific Benefits

(a) Use of Office Equipment and Support Staff

(b) Meal Allowances and Taxi Fares

(c) Commuting

(d) Transit Passes

(e) Office Social Functions

(f) Gifts and Awards

(g) Theater or Sports Tickets

(h) Employee Welfare Benefits

(i) First Aid

(ii) Dependent Life Insurance

(iii) Other Welfare Benefits

(iv) Miscellaneous Benefits

e. Qualified Transportation Fringes

(1) Transportation Fringes Covered

(2) Exclusion Ceiling

(3) General Rules for Exclusion

(a) Bona Fide Reimbursement Arrangement

(b) Special Rule for Transit Passes

(c) Compensation Reduction Agreements.

(4) Permissible Recipients and Discrimination

(5) Special Rules and Specific Benefits

(a) Commuting in an Employer-Provided Commuter Highway Vehicle

(b) Transit Passes

(c) Qualified Parking

(d) Qualified Bicycle Commuting

f. Qualified Moving Expense Reimbursements

g. Qualified Retirement Planning Services

3. Special Exclusions

a. Cafeterias and Dining Rooms

(1) Requirements for Exclusion

(2) Income Inclusion for Nonqualifying Facilities

(a) Individual Meal Subsidy Method

(b) Allocation of Total Meal Subsidy

(3) Special Rules for Convenience of the Employer

b. Athletic Facilities

c. Demonstration Automobiles

4. Operating Rules and Definitions

a. Permissible Recipients

(1) Special Definition of Recipient

(2) Special Definition of Employee

(a) Current and Former Employees

(b) Spouses, Dependent Children and Parents

(c) Partners and LLC Members

(d) Independent Contractors

(e) Directors

(f) Self-Employed Recipients

(g) Volunteers

b. Expanded Definition of Employer

c. Line of Business Limitations

5. Nondiscrimination Rules

a. Background

b. Determination of Discrimination - Operating Rules and Definitions

(1) Coverage Test

(2) Classification Test

(3) “Substantially-the-Same-Terms” Test

(4) Definition of Highly Compensated Employee

c. Effect of Discrimination

d. Specific Benefits Covered

(1) No-Additional-Cost Services

(2) Qualified Discounts

(3) Dining Rooms and Cafeterias

(4) Other Benefits

e. Benefits Excluded from Nondiscrimination Rules

(1) Working Conditions

(2) De Minimis Fringe Benefits

(3) Qualified Transportation Fringes

(4) Qualified Moving Expense Reimbursements

(5) Demonstration Automobiles

(6) Gyms and Recreational Facilities

(7) Qualified Retirement Planning Services

C. Valuation of Incidental Benefits

1. Background

2. General Valuation Approaches

a. Retail or Charter Cost

b. Allocated Employer Cost

c. Incremental Employer Cost

d. Value to Employee

3. Special Valuation Rules Applicable to Employer- Provided Transportation

a. Employer-Provided Automobiles

(1) Overview of Valuation Rules

(2) Special Valuation Rules

(a) Consequences of Use of Special Rules

(b) Lease Valuation Rule

(c) Cents-per-Mile Method

(d) Commuting Valuation Rules

(e) Fleet Valuation Rule

(3) Employer Election of Use of Special Valuation Rules and Recordkeeping Requirements

b. Aircraft Flights

(1) Overview of Valuation Guidelines

(2) Employer-Provided Aircraft

(3) Commercial Flights

(4) Employer Election of Use of Special Valuation Rules and Recordkeeping Requirements

(5) Frequent Flyer Program Awards

III. Other Statutory Fringe Benefit Exemptions

A. Educational Assistance Programs - § 127

1. Background and Purpose

2. Benefits Provided

a. In General

b. Permissible Benefits

c. Limitation on Amount Excludible

3. Requirements Under § 127

a. Written Plan

b. Participation and Discrimination

(1) Persons Eligible to Be Covered

(2) Participation Requirements

(3) Discrimination as to Benefits

(4) Limitation of Benefits

c. Other Benefits as an Alternative

d. Notice to Employees

4. Optional Provisions of Program

a. When the Education May Be Undertaken

b. Approval

c. Successful Completion of Course

d. Double Payment of Benefits

e. Condition Subsequent/Length-of-Service Requirement

f. Job Relationship Requirements

g. Education Provider Requirements

h. Term of Plan

i. Substantiation

5. Procedural Requirements

6. Relationship with Prior Law

7. Effective Dates

B. Dependent Care Assistance Programs - § 129

1. Background and Purpose

2. Benefits Provided

a. Permissible Benefits

b. Limitation on Amount Excludible

(1) $5,000 Limit

(2) Earned Income Limit

(3) Identification of Care Provider

c. Comparison of § 21 Credit and § 129 Exclusion

3. Requirements Under § 129

a. Written Plan

b. Manner of Offering Plan

c. Participation and Discrimination

(1) Eligibility Test

(2) Discrimination as to Benefits

(3) Average Benefits Test

(4) Concentration Test

d. Statement of Expenses

e. Notice to Employees

4. Procedural Requirements

C. Employee Achievement Awards

D. Benefits Discussed in Other Portfolios

IV. Taxable Benefits

A. Benefits Subject to Current Tax

1. Vacations and Holidays

2. Tuition Payment and Tuition Reduction Plans

3. Financial Counseling

4. Interest-Free or Low Interest Loans

5. Gifts and Awards

6. Unrelated Employer Facility Benefits

7. Commuting

8. Excess Moving Expense Reimbursements

9. Housing Assistance Benefits

B. Benefits Subject to Deferred Tax

1. Retirement and Similar Benefits

2. Supplemental Unemployment Benefit Plans

a. Background and Purpose

b. Supplemental Unemployment Benefit Trusts

c. Requirements of § 501(c)(17)

(1) General Requirements

(2) Requirement of Plan

(3) Permissible Benefits

(4) Persons Eligible

(5) Discrimination as to Eligibility and Benefits

(6) Investments of Trustee

(7) Procedural Requirements

(a) Application

(b) Maintenance

(8) Multiemployer Plans

d. Deductions by Employers

e. Tax Consequences to Employees

V. Miscellaneous Considerations

A. Withholding and Employment Taxes

1. Section 132 Incidental Fringe Benefits

a. Background

b. General Rules for Collection

(1) Deemed Payment Date Election

(2) Estimation Option

(3) Special Accounting Rule

c. Special Rules

(1) Discount Purchases

(2) Investment Property and Real Estate

2. Other Statutory Fringe Benefits

a. Educational Assistance Programs

b. Dependent Care Assistance Programs

c. Employee Achievement Awards

d. Supplemental Unemployment Benefit Plans

3. Penalties for Failure to Withhold

a. Failure to Pay Assessed Deficiency - § 6651(a)(3)

b. Accuracy-Related Penalty - § 6662

c. Failure to Make Deposit of Taxes - § 6656

d. Failure to Collect and Pay Over Tax - § 6672

e. Failure to Furnish Correct Payee Statements - § 6722

B. Welfare Benefit Fund Limitations

1. Definition of Welfare Benefit Fund

a. Definition of “Fund”

b. Definition of “Welfare Benefits”

2. Deduction Limits

a. In General

b. Qualified Direct Cost

3. Qualified Asset Account

a. General Limits

b. Special Limits for SUB Plans

4. Collectively Bargained Plans

5. Aggregation of Welfare Benefit Funds

6. Carryover of Excess Contributions

7. Unrelated Business Income

C. ERISA Requirements

1. Application to Welfare Benefit Plans

2. Reporting and Disclosure

3. Fiduciary Standards

4. Plan Requirements

5. Preemption of State Law

VI. “Separate Line of Business” for Employee Benefit Plan Purposes

A. Introduction

1. Conceptual Approach

2. Gateway Testing

3. Definitions

a. Testing Year

b. Testing Day

c. First Testing Day

d. Section 401(a)(26) Testing Day

B. Separate Line of Business

1. Defining a Line of Business

2. Defining a Separate Line of Business

a. Separate Organizational Unit

b. Separate Financial Accountability

c. Separate Workforce

d. Separate Management

e. Optional Rule for Vertically Integrated Lines of Business

C. Threshold Requirements

1. Fifty-Employee Requirement

2. Notice Requirement

3. Administrative Scrutiny

a. Statutory Safe Harbor

b. Administrative Safe Harbors

(1) Industry Category Safe Harbor

(2) Merger and Acquisition Safe Harbor

(3) Reportable Business Segments Safe Harbor

(4) Average Benefits Safe Harbor

(5) Minimum or Maximum Benefits Safe Harbor

c. Individual Determinations

D. Separate Operating Units

E. Determination of Employees of a Qualified Separate Line of Business

1. Substantial-Service Employees

2. Allocation of Residual Shared Employees

a. Dominant Line of Business Method

b. Pro-Rata Method

c. Highly Compensated Employee Percentage Ratio Method

d. Small Group Method

3. Optional Rule for Assigning Employees Who Change Status

4. Assignment Procedures

F. Separate Application of Statutory Requirements

1. Section 129(d)(8)

2. Section 410(b)

a. General

b. Employer-Wide Application

c. Qualified Separate Line of Business Application

d. Special Rule for Employer-Wide Plans

e. Definition of “Plan”

f. Coordination with § 401(a)(4)

g. Failure to Comply

3. Section 401(a)(26)

G. Application of Separate Line of Business Requirements and Special Rules

1. Testing Year Basis

2. Averaging Rules

3. Mergers and Acquisitions

4. Affiliated Service Groups

5. Governmental and Tax-Exempt Employers


Working Papers

Table of Worksheets

Worksheet 1 [Reserved]

Worksheet 2 Sample Educational Assistance Plan

Worksheet 3 Summary Plan Description for Educational Assistance Plan

Worksheet 4 Sample Dependent Care Assistance Plan

Worksheet 5 Summary Plan Description for Dependent Care Assistance Plan

Worksheet 6 Sample Employee Statement to Employer Regarding Employee's Use of Employer's Automobile

Worksheet 7 Sample Written Policy on Commuting in Employer-Provided Vehicles

Worksheet 8 Sample Policy on Commuting Provided by Employer Due to Unsafe Conditions

Worksheet 9 Model Qualified Written Policies on Demonstration Automobile Use

Worksheet 10 Sample Policy on Product Testing Program





Legislative History:

Committee Reports and Materials:

Treasury Rulings: