Basic Income Tax:SettlementsEmployee Fringe Benefits Professor Jack Williams
General Rule: Settlement and Court Awards are Gross Income • IRC §61 and Glenshaw Glass (1955): Income is simply “an undeniable accession to wealth.” Congress intended “to exert the full measure of its taxing power.” • Rule 1: Damages awarded on account of lost profit are GI • Rule 2: Recovery for property damage is measured against the basis of property to determine gain or loss • Rule 3: Damages to recover portion of goodwill are a return of capital and are excluded from GI • Rule 4: Conversion of property to cash, however, may result in the recognition of gain • Rule 5: Damages received on account of personal physical injuries or sickness is excluded from GI
Damages:Business or Property Damages • Raytheon (1944): “in lieu of what were the damages awarded?” • Damages for lost profits are taxable as gross income • Damages to property – recovery for such damages will be measured against the basis of the property to determine realized gain
Damages:Personal Physical Injury or Sickness (Section 104) • §104(a)(2) excludes from GI any damages received, whether by suit or agreement, as a lump-sum or periodic payment, on account of personal physical injuries or sickness (that is, tort or tort type rights). Reg. §1.104-1. • Typical cases: • Battery • Title 7 claims • Typical exceptions to exclusion: • Emotional Distress • Punitive damages • GR: Key is to show origin of claim lies in a physical injury and the claim is not otherwise grouped under “emotional distress.” Thus, law excludes all damages intended to compensate a taxpayer for a physical injury and the consequences, including economic consequences, flowing from that injury.
ACCIDENT AND HEALTH INSURANCE • GR: §104(a)(3) provides that payments received through the accident or health insurance policies are excluded from GI, provided that the policy was not financed by the Tp’s employer or by employer contributions not includable in the Tp’s income. • Tp financed through after-tax dollars!!! • Exception: Not so with employer-financed plans, which are governed by §105. • Section 105(a) generally includes these payments in employee’s GI. • Exception to exception: §105(b) and (c)
Methodology • Key: ALLOCATION!!! PAYMENTS FOR PAIN AND SUFFERING • Is there a personal injury? • Are there damages? • REIMBURSED MEDICAL EXPENSES
Methodology cont’d • FUTURE MEDICAL EXPENSES • LOST WAGES • PUNITIVE DAMAGES • DAMAGE TO PROPERTY • PAYMENTS FROM INSURANCE POLICIES • Personal insurance • Employer financed insurance
Definition: Fringe Benefit • The term is used to describe an economic benefit, other than a cash salary or wages, that is provided to an employee by her employer as compensation for services.
Tension • No gifts in the employment context between employer and employee • Concern is that any gift is in fact disguised compensation • Thus, any fringe benefits received in connection performance of your services are included in your income as compensation • Limited exception to general rule for “fringe benefits” and where employee pays fair market value for such benefits
Fringe Benefit: Example B, an employee of X, receives a salary plus the rent free use of a home owned by X. X does not require B to live there and there is no relationship between the home and work. Must B include the value of the home in his gross income?
Fringe Benefit: Answer General Rule: Fringe Benefits constitute gross income under §61(a). Recall that the form of receipt or of compensation does not matter under Treas. Reg. §1.61-1(a).
Exception to General Rule to Include Fringe Benefits in Gross Income • Where the Internal Revenue Code provides otherwise . . . • Meals and Lodging • No additional cost services • Qualified employee discounts • Working condition fringe • De minimis fringe • Qualified transportation fringe • On-premises athletic facilities • Qualified tuition reductions (Chapter 6) • Qualified moving expense reimbursement (Chapter 18)
Meals and Lodging: Meals • Section 119: An exclusion from gross income is provided to an employee for meals and lodging provided for the convenience of the employer on the employer’s premises • Does not include a cash allowance – must be meals • Includes employee, spouse and dependents
Meals and Lodging: Lodging • Section 119: • Lodging must be furnished on the employer’s business premises at the convenience of employer and as a condition of employment
Section 132 Fringe Benefits • No additional cost service • Qualified employee discount • Working condition fringe • De minimis fringe • Qualified transportation fringe • On-premises athletic facilities • Qualified tuition reductions (Chapter 6)* • Qualified moving expense reimbursement (Chapter 18)
No Additional Cost Services • Elements: • Service must be offered to customers in ordinary course of the employer’s line of business in which the employee is performing services • Employer incurs no additional cost (including forgoing revenues) in providing the service to the employee • Generally employer must provide qualifying service; however, two or more employers in same business may enter into written reciprocal agreement two allow each to use the service.
Qualified Employee Discounts • If a taxpayer buys goods or services for less than fair market value as form of compensation, then the difference is included in income unless the difference qualifies as a recognized employee discount. • If the difference between the fair market value of the property or services and that which a taxpayer paid is a qualified employee discount, then a taxpayer does not take the difference into income • Basis in property is equal to fair market value
Qualified Employee Discount - Property: Definition • Exclusion re qualified property may not exceed an amount equal to the gross profit percentage of the price at which the property is offered for sale to customers • Discount in excess of gross profit % is income • Gross profit percentage is essentially the employer’s average mark-up on goods Gross Profit Percentage = (total sales – cost of goods)/total sales
Qualified Employee Discount - Services: Definition • Exclusion of an employee discount with respect to qualified services may not exceed 20% of the price at which the services are offered to the customers in ordinary course of business, regardless of gross profit %. • Discount in excess of 20% is income
Working Condition Fringe • Gross income does not include the value of any property or services provided to an employee by her employer to the extent that, if the employee paid for the property or services herself, she would be entitled to a deduction under the Internal Revenue Code. • Example: Employer provides trade journal subscriptions. Cost of trade journal is excluded to extent employee would have been able to deduct expense.
De Minimis Fringe • If employer provides product or service and the cost of it is so small that it would be unreasonable for the employer to account for the item or service, the value is not included in your income. • Examples: • Discounts at company cafeteria on or near premises where charge is about equal to cost • Cab fares home when working overtime • Company picnics • Free beverages (coffee, tea, soda)
De Minimis Fringe cont’d Recurring situation: “Tale of the Holiday Gift!” • If your employer gives you a turkey, ham, or other item of nominal value for a holiday, taxpayer does not take the value of the gift into income. • If employer gives you cash, a gift certificate, or an item that can easily be exchanged for cash, taxpayer must include the value of the gift as salary or wages regardless of amount.
Qualified Transportation Fringe • If employer provides taxpayer with a qualified transportation fringe benefit, it can be excluded from your income, up to certain limits. • A qualified transportation fringe benefit is: • Transportation in a commuter highway vehicle (for example, a van) between your home and work • Transit pass • Qualified parking
Transportation Fringe cont’d • Cash reimbursement by your employer for the above expenses under a bona fide reimbursement arrangement is excludable. • However, cash reimbursement for a transit pass is excludable only if a voucher or similar item that can be exchanged only for a transit pass is not readily available by direct distribution to taxpayer
Limit on Benefit • For Commuter Highway Vehicle: • Cannot exceed $100 per month • For Transit Pass: • Cannot exceed $100 per month • For both Commuter Highway Vehicle and Transit Pass: • Cannot exceed $100 per month in aggregate • For Qualified Parking: • Cannot exceed $195 per month • Any amounts in excess must be take into gross income • Any cash received in lieu of Qualified Transportation Fringe is income
Commuter Highway Vehicle • Highway vehicle • Seats at least 6 adults (excluding driver) • At least 80% of the mileage must be reasonably expected to be: • For transporting employees between home and work and • On trips which employees occupy at least half of the vehicle’s adult seating capacity (not including the driver)
Transit Pass • Any pass, token, farecard, voucher, or similar item entitling a person to ride mass transit (public or private) free or at a reduced rate or to ride in a commuter highway vehicle operated by a person in the business of transporting persons for compensation.
Qualified Parking • Parking provided to an employee at or near the employer’s place of business. • Parking also provided on or near a location from which the employee commutes to work mass transit, in commuter highway vehicle, or by carpool. • Parking near the employee’s home not included.
On-Premises Athletic Facility • Gross income does not include the value of using a gym or other athletic facility provided to an employee by his employer. • Elements: • Athletic facility • On premises of employer • Operated by employer • Substantially all the use by employees
Qualified Tuition Reductions • Taxpayer may exclude up to $5,250 of qualified employer-provided educational assistance. • The exclusion generally applies to undergraduate and graduate level course.
Qualified Moving Expense Reimbursement • Pick this limited exclusion up later in the course. • Check out PUB 17, at 136-140
Non-Discrimination Rules • Any benefit provided in a way to favor an employer’s highly compensated employees may result in inability of such employees to qualify for certain fringe benefit exclusions. • Disqualified: • No additional cost service • Qualified employee discounts • Employer provided eating facility
Definition of Employee • Employee includes spouse and dependent children for the following fringe benefits: • No additional cost services • Qualified employee discounts • On-site athletic facilities • For above benefits, employee also includes retirees, disabled, widows, widowers
Conclusion • Questions?