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Tax-favored employee benefits
Tax-favored employee benefits
What type of benefits does the tax law favor? Some benefits incur no income tax or employment taxes. Some benefits have limits on what is tax free. Some benefits are exempt from income tax while subject to employment tax. Note: The tax treatment of these benefits can change from year to year.
Here's a rundown of the most common types of employee benefits in alphabetical order and how to take advantage of them:
Adoption assistance
Your employer may reimburse you or pay directly for your cost of adopting a child under a company-sponsored adoption assistance program. In 2005, you aren't taxed on amounts up to $10,630 if your adjusted gross income (AGI) is no more than $159,450, regardless of your filing status. The exclusion is phased out for AGIs between $159,450 and $199,450. The benefit is fully taxable if AGI exceeds $199,450.
Athletic facilities
Use of a gym, tennis courts or other athletic facilities on company premises is tax free. But company-paid membership to health clubs, golf or tennis clubs or other sporting facilities is a taxable benefit.
Bonuses
You're fully taxed on any bonus you receive, just like additional pay. But if you agree in advance to defer the receipt of the bonus until some future time (such as retirement), this deferred compensation generally isn't taxed until you receive it. However, it is still subject to Social Security and Medicare taxes in the year it's earned.
Company car for personal use
Your company may allow you to use a car it owns for business and your personal purposes. If a company-owned car can be used for personal purposes, you are taxed on this benefit. But the resulting tax cost is far less than what it would actually cost you to drive your own car. The cost to you is only the tax on what the employer reports. Your employer can choose to:
* Report the actual value of your personal use, or...
* Assume that the car is used 100% for personal purposes and treat the entire benefit as compensation.
Personal use can be figured in several ways. One way is to base it on what's called the annual lease value (ALV) of the car, a figure taken from IRS tables.
Example: Assume that you use a $30,000 company car for personal time one-quarter (25%) of the year. The ALV of a $30,000 car is $8,250, and the taxable benefit to you is only $2,063 (25% of $8,250).
Strategy: Deduct your business use of a company car if your W-2 form reports 100% of the car's use as personal. You can deduct any business use of the car as a miscellaneous itemized deduction subject to the 2% of adjusted gross income floor. For example, you can deduct business use based on the IRS standard mileage rate (40¬˘ per mile in 2005).
* Reimbursement for business use of your car. If you use your own car on company business, you may be reimbursed by your employer. Reimbursement can be arranged on a tax-free basis if made under an "accountable plan." Even if your company doesn't tell you that it's using an accountable plan, you'll know it because you'll be required to substantiate business travel to your employer within 60 days of the travel and return any excess reimbursements no more than 120 days after the expense was paid or incurred. Reimbursement in excess of business expenses is taxable to you. Note: You can't deduct your car expenses if they are reimbursed by your employer under an accountable plan.
If reimbursement is made to you under a nonaccountable plan, then it is reported as income. You can then claim business use of your car as a miscellaneous itemized deduction, subject to the 2% floor.
* Commuting costs. Reimbursement for your commuting costs is taxable. Commuting costs are personal expenses. Exceptions: Reimbursements for commuting (up to the value of a one-way trip that exceeds $1.50) only when you work beyond normal hours and it's considered unsafe for you to use other means of transportation.
Company stock
If you're given company stock, you're taxed on the benefit. But if the stock is subject to restriction or a substantial risk of forfeiture, you aren't taxed until the restriction or risk is lifted.
Strategy: Immediately report the receipt of company stock or other restricted property as income. You'll pay income tax only on the current value of the stock or property. Future appreciation will be converted into a long-term capital gain, which is taxed at a lower rate. Ask your tax adviser about a Section 83(b) election to report this income.
Dependent care assistance
If your employer reimburses you or pays directly for the cost of dependent care, you aren't taxed on up to $5,000 of this benefit. Caution: If you receive this tax-free benefit, you can't claim a dependent care credit with respect to the same expenses.
Strategy: Participate in an employer-sponsored flexible spending arrangement (FSA) for dependent care costs if available and if your employer doesn't pay directly for dependent care. You agree to a salary reduction contribution to the FSA, which is used to reimburse you for dependent-care expenses. While this arrangement means that you are paying for dependent care, you'll be able to do so with pretax dollars.
Disability insurance
Employer-paid disability insurance is a tax-free fringe benefit. But if you become disabled and receive disability benefits, they'll be taxable to you.
Strategy: Arrange for additional compensation in lieu of employer-paid disability insurance. If you pay for your own disability insurance, should you need to receive benefits, they'll be tax free. And when you leave the company, you can continue your coverage.
Educational assistance
Employer-paid college courses are tax free up to $5,250 annually, whether job related or not. The exclusion applies to both undergraduate- and graduate-level courses. There's no dollar limit for educational assistance that's job related. Job retraining is tax free as well, even if you no longer work for the company.
Also, if you work for a college or other educational institution and receive a discount on tuition, you're not taxed on this benefit.
Group term life insurance
Your employer may provide term life insurance, typically double your annual salary. This benefit is tax free up to $50,000. If you receive additional coverage, the excess is taxable according to an IRS table that imputes income based on age (without regard to the actual cost of additional coverage). This IRS table results in only a modest taxable amount for excess coverage. The following table, based on IRS figures, shows what you would have to pay tax on for each additional $1,000 of coverage. You don't have to figure your taxable amount each year; it's included on your W-2 form.
Annual cost per $1,000 of group term life insurance
Your age as of the end of the year The annual cost per $1,000
Under 25 $ 0.60
25-29 0.72
30-34 0.96
35-39 1.08
40-44 1.20
45-49 1.80
50-54 2.76
55-59 5.16
60-64 7.92
65-69 15.24
70 and older 24.72
