Most companies cover their employees' business expenses by reimbursing them for their
actual expenses or by paying a travel or mileage allowance. Such arrangements are
subject to strict tax rules concerning what qualifies as a legitimate reimbursement
arrangement and what is treated (at least for tax purposes) as additional
compensation to the employee.
According to the tax rules, the key distinction between a true expense reimbursement
and disguised compensation is whether the employer's payments are made in accordance
with what the IRS calls an accountable plan. (Such a plan basically requires
employees to substantiate all reimbursed expenses and return any advances in excess
of expenses incurred.)
If an employer has an accountable plan in place, expense reimbursements and allowances
to employees, who properly comply with the terms of the plan, are deductible by the
company (subject to the 50% limit for most meals and entertainment expenses) and
nontaxable to the employees.
If a company maintains a nonaccountable plan or an employee fails to comply with the
company's accountable plan, expense reimbursements and allowances are still
deductible by the company. However, they are taxable to the employee as compensation.
Thus, such amounts are included on the employee's Form W-2 and subject to income tax
withholding. In addition, both the employer and employee are subject to employment
taxes on such payments. Although the employee is allowed an offsetting deduction for
the expenses reported on his or her Form W-2, the deduction is claimed as a
miscellaneous itemized deduction and thus normally provides little or no tax benefit.
Because the tax ramifications of a nonaccountable expense reimbursement plan are so
unfavorable for employees and are potentially unfavorable for the employer, companies
generally should use an accountable plan for employee expense reimbursements. If you
would like our help in establishing such a plan for your business (or in ensuring
that your current reimbursement policy complies with the requirements for such a
plan) please contact us. We would be glad to assist you.
This publication is distributed with the understanding that the author, publisher and
distributor are not rendering legal, accounting or other professional advice or
opinions on specific facts or matters, and, accordingly, assume no liability
whatsoever in connection with its use. The information contained in this newsletter
was not intended or written to be used and cannot be used for the purpose of (1)
avoiding tax-related penalties prescribed by the Internal Revenue Code or (2)
promoting or marketing any tax-related matter addressed herein. © 2015