The enactment of the Tax Cuts and Jobs Act (TCJA) affects nearly every U.S. taxpayer. Lower tax rates, expanded deductions and new limitations have taxpayers and their advisors scrambling to determine what exactly the new law means for them. One area of the TCJA that deserves extra attention is its effects on employers and their employees. This article focuses on some of the more significant provisions affecting these groups.
Effects on Employees
Qualified Transportation Fringe Benefits
The income exclusion for qualified bicycle commuting reimbursements, as provided under Internal Revenue Code (IRC) Section 132, is repealed for tax years beginning after December 31, 2017, and before January 1, 2026. These expenses include the initial purchase of a bicycle and any improvements, repairs or storage costs related to the bicycle if it’s regularly used as a mode of commuter travel. Conversely, the exclusion for other qualified transportation fringe benefits is unchanged. Employees are still able to exclude from income (up to a monthly dollar limit) any amounts received from an employer related to transit passes, qualified parking or commuter highway vehicles, i.e., a vehicle with capacity of at least six adults—not including the driver—where at least 80 percent of the mileage is for transporting employees who make up at least 50 percent of the vehicle’s adult passenger seating capacity.
The new law also repealed the deduction (under IRC §217) and income exclusion (under IRC §132(g)) previously allowed for employees with qualified moving expenses. As with the provision for qualified bicycle commuting reimbursements—and many of the other provisions within the TCJA that affect individual taxpayers—this provision expires December 31, 2025. Reimbursements received after December 31, 2017, are includible in an employee’s gross income, even if the expense was incurred during 2017. This provision applies to all employee reimbursements (including payments an employer makes directly to a third party, e.g., moving company), except for amounts received by an active-duty member of the U.S. armed forces who moves pursuant to a military order and incident to a permanent change of station.
Effects on Employers
Qualified Transportation Fringe Benefits
The TCJA disallows the deduction for any qualified transportation fringe benefits provided to employees under IRC §132, except as necessary to ensure an employee’s safety. This includes expenses related to commuter highway vehicles, transit passes and qualified parking. However, while reimbursements for qualified bicycle commuting expenses are no longer excludible from employee income, the corresponding deduction for the employer remains intact. Perhaps the most critical effect of this provision is that employers will no longer be able to provide qualified parking benefits on a pretax basis while still getting the deduction for the costs incurred. Employers should review the details of parking arrangements with their employees to determine whether a change is warranted.
Choosing to continue providing qualified parking benefits to employees on a pretax or tax-free basis will result in a loss of the deduction for the employer. Possible alternatives employers should consider include eliminating the qualified parking program, along with the associated costs, or including the value of the benefit in each employee’s taxable wages. Under the latter scenario, the employer would be eligible for the deduction as a general compensation expense. Furthermore, to ease the tax burden from the loss of the previously tax-free benefit, the employer can “gross up” each affected employee’s compensation by the amount of the additional tax due.
The mechanics of this provision are further complicated when trying to determine the appropriate value to assign to these qualified parking benefits. For example, many employers own or lease the parking surface or facility used by their employees. It’s unclear at this time exactly how these employers are expected to calculate the portion of depreciation or lease expense allocable to qualified parking provided to employees as a fringe benefit. This is one of several areas of the new law where additional guidance is needed. The U.S. Department of Treasury and the IRS recently released an updated 2018 priority guidance plan that listed 18 TCJA-related items they intend to focus on initially. Unfortunately, qualified transportation fringe benefits guidance didn’t make the list.
It’s important to note the TCJA provision that repealed the employee deduction and income exclusion for moving expenses didn’t affect an employer’s ability to deduct those same expenses upon reimbursement to the employee or payment to a third party. Such payments are still deductible to the employer but must now be included as income to the employee.
Employee Achievement Awards
Under IRC §274(j), employers are able to deduct (and employees are able to exclude from income) the cost of employee achievement awards, up to a specified limit; however, the award must be of tangible personal property. The TCJA made a subtle yet important change to the treatment of these awards by clarifying that the term “tangible personal property” excludes cash, gift cards, vacations, meals, lodging, theater or sporting event tickets, stocks, bonds, other securities and other similar items.
The elimination of the deduction for qualified transportation fringe benefits affects tax-exempt employers in a unique way. Instead of losing a deduction, IRC §512(a)(7) provides that any disallowed benefit provided to an employee after December 31, 2017, and not associated with any unrelated business that is regularly carried on by the organization must be included as additional unrelated business taxable income (UBTI). The UBTI increase also may apply to expenditures for any parking facility used in connection with qualified parking and any on-premises athletic facility (as defined under IRC §132(j)(4)(B)). Tax-exempt employers face the same issues as taxable employers in regard to the actual calculation of these benefits. Nevertheless, the amount of any disallowed fringe benefits must either be included as UBTI and reported on Form 990-T, Exempt Organization Business Income Tax Return, or included as taxable wages to employees on Form W-2.
See our BKD Thoughtware® article on the top five tax reform provisions affecting tax-exempt health care providers, which includes the provision for increasing UBTI by the amount of certain fringe benefits.
Income Tax Withholding for 2018
The IRS recently updated the 2018 federal income tax withholding tables to reflect changes made by the TCJA. The updated withholding information includes the new rates for employers to use during 2018. Employers should begin using the 2018 withholding tables no later than February 15, 2018. The new withholding tables are compatible with existing Forms W-4 employees already furnished their employers; therefore, employees won’t need to do anything at this time unless they’re claiming exemption from withholding, in which case they’ll need to submit a 2018 Form W-4 within 30 days of the release of that form. The IRS is currently revising the 2018 Form W-4 as well as its withholding calculator. The IRS encourages all taxpayers to check their withholding with the new withholding information.
As provided in IRS Notice 2018-14, the withholding rate under the optional “flat-rate” method for supplemental wages, such as bonuses, commissions or overtime pay, is decreased from 25 percent to 22 percent. Employers must implement this withholding rate decrease for any supplemental wages paid on or after February 15, 2018. Withholding on supplemental wages paid prior to February 15, 2018, and on or after January 1, 2018, may have been at a rate higher than 22 percent; employers may, but aren’t required to, correct withholding on supplemental wages paid during this period to reflect the reduced rate. See IRS Publication 15, Circular E – Employer’s Tax Guide, for additional rules that apply to withholding when an employee receives more than $1 million of supplemental wages during a calendar year. As in prior years, the 2018 withholding on periodic pension and annuity payments when no withholding certificate is in effect is based on treating the payee as a married individual claiming three withholding allowances.
Be sure to visit BKD’s Tax Reform Resource Center for more information on the new law. Contact Julia or your trusted BKD advisor for help determining the effect these provisions may have on your specific situation.