Many companies offer extra benefits to attract and retain the best talent. These benefits range from insurance to retirement accounts and bonuses. In the past, only large companies would offer fringe benefits because of the extra cost. Still, it is becoming more popular among small and medium companies just so those companies can retain the best talent.
Although small businesses offer what they can afford, many would prefer to offer many fringe benefits. Those who do need to understand the tax ramifications of certain fringe benefits.
The Internal Revenue Service (IRS) defines a fringe benefit as “a form of pay for services.” They are usually included in an employee's gross income and are usually non-wage compensation. Fringe benefits may be fully or partially taxable, depending on the benefit and to whom it is paid.
Taxable fringe benefits may include:
Coverage for non-dependent people or excessive coverage amounts are taxable.
Bonuses and awards are great ways to motivate and reward employees, but most, including cash bonuses, non-cash awards, and gift cards, are taxable.
When you provide a company car for business use only, it is usually non-taxable. However, it becomes taxable if the employee can use the vehicle for personal and business reasons.
The housing rules for taxable or non-taxable fringe benefits are complex. Housing allowances may trigger taxable fringe benefits, especially if the housing is not necessary for employment.
The IRS provides limits for non-taxable educational assistance. Anything over those amounts, which can change from year to year, is taxable.
Meals and entertainment are only non-taxable under certain circumstances, including “your convenience.” For example, if you provide employee meals on the premises for an employee who works overtime, the meal is not usually taxable.
In most cases, the value of the taxable fringe benefit is determined by the benefit’s fair market value. However, the IRS does provide guidelines for many fringe benefits. For example, when you provide a vehicle for an employee and allow the employee to use the vehicle for personal use, the IRS calculates the taxable value based on a standard mileage rate or a percentage of the vehicle’s fair market value.
As an employer, you have specific withholding obligations for taxable fringe benefits. If you fail to meet those obligations, you could face penalties and legal consequences. As an employer, you must:
Some examples of benefits that are taxable as certain income include:
Mistakes when calculating taxable and non-taxable fringe benefits can lead to severe repercussions by the Internal Revenue Service. Thus, it is essential to regularly review your benefits programs with a tax professional or a tax attorney to ensure you remain compliant. The tax laws change yearly, making an already tricky payroll area even more difficult.
Some of the common mistakes made by employers include:
Make sure you know the employment status, e.g., whether the person working for you is an employee or an independent contractor. Additionally, some fringe benefits are available to past employees or the widow or widower of an employee. These individuals may or may not be classified as employees for fringe benefit taxation.
Fostering a positive work environment means mitigating potential issues. One of the big issues you can mitigate is being transparent about fringe benefits. When employees understand how fringe benefits work, they are more compliant. In addition to including the fringe benefits and their tax ramifications in the employee manual, you should also provide:
An employee may have specific questions regarding taxable fringe benefits. Offering individual consultations regarding fringe benefits and the tax repercussions on an employee can help alleviate concerns about unique situations.
An effective human resources office understands taxable fringe benefits. Employers can avoid pitfalls and can fulfill reporting obligations more efficiently. They can also significantly foster transparent communication with employees when the tax law changes or the company adds or removes a taxable fringe benefit.