With the holidays quickly approaching, employers may be considering rewarding their employees for all of their hard work this year. During this time of year, it is important for employers to keep in mind the tax consequences of giving gifts to employees.
De minimis fringes
De minimis fringes are benefits provided by employers that are offered infrequently and have a fair market value (FMV) so small that it is impractical and unreasonable to account for them. These gifts are tax-free to the employee yet deductible in full by the employer. Some examples include:
- Traditional birthday or holiday gifts of property (not cash) with a “low fair market value”.
- Presents such as books or flowers provided to employees under special circumstances (e.g., outstanding performance).
- An occasional cocktail party, group meal or picnic for employees and their guests, or occasionally giving out theater or sporting event tickets.
For purposes of the tax-free de minimis fringe benefit rules, “employees” include any recipient of a fringe benefit. Thus, partners, members of LLCs taxed as partnerships, and more-than-2% S shareholder-employees are eligible to receive the above tax-free de minimis fringes.
Cash, gift certificates, debit cards or similar items that are convertible to cash
The value of gifts of cash, gift certificates, debit cards or similar items that are convertible to cash are always considered additional wages regardless of the amount. These gifts are subject to employment taxes and withholding taxes. These types of gifts also do not qualify as employee achievement awards.
Employee achievement awards
An employee achievement award is a non-cash gift that is awarded for one of two purposes:
- Length-of-service. To qualify as a length-of-service reward, the employee must have worked at the company at least 5 years and not have received a length-of-service reward in any of the prior four years.
- Safety achievement. A safety achievement award cannot be given to a manager, administrator, clerical employee, or other professional employee; or more than 10% of the employees during the year, excluding the ones already listed.
Either type of award must be made as part of a meaningful presentation, and under conditions and circumstances that don’t create a significant likelihood of disguised pay.
An employee achievement award can be a qualified plan award or a nonqualified plan award.
- Qualified plan awards must be made as part of an established written plan that does not discriminate in favor of highly compensated employees as to eligibility or benefits. Additionally, the average cost of all the qualified employee achievement awards given during the tax year must be less than $400.
- If an employee achievement award does not meet the specifications above, it is considered a nonqualified plan award.
Employer’s deduction for employee achievement awards.
The amount that the employer can deduct depends on the total amount of qualified and nonqualified employee achievement awards given to any one employee during the tax year.
- The employer’s deduction for the cost of all nonqualified plan awards made to any one employee during the tax year cannot exceed $400.
- The employer’s total deduction for the cost of employee achievement awards, including both qualified and nonqualified plan awards, made to any one employee during the tax year cannot exceed $1,600.
- If the award is made by a partnership, these limits apply to the entity as well as each member of the partnership.
Employee’s exclusion for employee achievement awards.
The amount of the employee achievement award that an employee can exclude from their income will depend on the amount the employer is able to deduct.
- If the award is fully deductible by the employer, the employee can exclude the entire FMV of the award. For example, if an employer makes a qualifying length-of-service award to an employee in the form of a digital camera that costs the employer $375 and is worth $475. The deduction limit applicable to the award is $400. The amount excludable by the employee is $475 (the full FMV of the camera).
- If the award costs more than the amount the employer can deduct, the employee includes in income the larger of that part of the cost of the award that the employer cannot deduct; or the amount by which the FMV of the award is more than the amount the employer can deduct. For example, if an employer makes a qualifying length-of-service award to an employee in the form of a necklace that cost the employer $425 and is worth $475. The deduction limit applicable to the award is $400. The amount includible by the employee in income is the greater of $25 (the difference between the cost of the item ($425) and the employer’s deductible amount of $400) or $75 (the amount by which the FMV of the award ($475) exceeds the employer’s deductible amount of $400). As a result, $75 is includible in the employee’s income. The remaining portion of the FMV of the award (i.e. the $400 amount allowable as a deduction to the employer) is not included in the gross income of the employee.
Due to proposed tax legislation, it is worth noting that this could be the last year to take advantage of employee achievement awards. The House-passed Tax Cuts and Jobs Act (but not the Senate version) would repeal the exclusion of employee achievement awards under Code Sec. 747, effective for tax years beginning after December 31, 2017. Please give us a call so we can help you make the best decision based on tax law change developments and your specific situation.
Written by: Susan George
Susan George joined Thompson Greenspon as a Tax Senior in the fall of 2017. Prior to joining the firm, she worked as a Tax Accountant in the construction & real estate group at a large regional public accounting firm in Tysons, VA.
Susan is responsible for the preparation and review of Federal and multi-state tax returns for corporations, partnerships, trusts, estates, nonprofit organizations, and individuals. She has substantial experience serving clients in the construction and real estate industries and nonprofit organizations.
Susan holds a Bachelor of Business Administration from James Madison University and graduated in 2013. Following her graduation, she attended George Mason University where she enrolled in the Accounting Certificate program to become a CPA. Susan has been a licensed CPA in Virginia since 2016. She is a member of the American Institute of Certified Public Accountants and the Virginia Society of Certified Public Accountants.