Transcript Tax Executives Institute Omaha Chapter Hot Topics: Fringe

miller &chevalier
Chartered
Tax Executives Institute
Omaha Chapter
Hot Topics: Fringe Benefits
and Employment Taxes
October 18, 2006
Marianna G. Dyson
[email protected]
(202) 626-5867
Covered Topics
1.
2.
3.
4.
5.
6.
Update on Examinations of Employer-Provided Fringe Benefits.
Cellular Telephones and Related Services.
Accountable Plans.
Personal Use of Company Aircraft.
Final Regs on Supplemental Wage Withholding Requirements.
Tax Treatment of Home Sale Expenditures for Relocating
Employees.
7. “Murphy’s Law and the Tax Treatment of Damages for NonPhysical Injuries.”
8. Tax Issues Arising in Connection with Option Backdating.
Update on Examinations of
Employer-Provided Fringe Benefits
Topics Covered by this Section
 Favorite Themes in the Fringe Benefits Audit Techniques
Guide – Fun, Food, and Moving Around.
 Background
and Steps to Analyze Fringe Benefits
 Specifically Identified Fringe Benefits in the Audit
Techniques Guide.
 Instructions to IRS Examiners Regarding How to
Identify Fringe Benefits.
 10 (Loser) Arguments to Justify No-Reporting of Fringe
Benefits.
Update on Examinations of
Employer-Provided Fringe Benefits
 Audit Guide Themes - Fun, Food, and Moving Around.
 deduction
disallowances under sections 274 and 162(m),
in addition to the failure to impute and report income;
 Entertainment (e.g., personal travel, club memberships,
vacations);
 Spousal travel benefits;
 Accountable plans under section 62(c) (including misuse
of corporate credit cards);
 Loans;
 Meals;
Update on Examinations of
Employer-Provided Fringe Benefits
 Audit Guide Themes - Fun, Food, and Moving Around
Cont’d.
 Post-termination
benefits, including the taking or keeping
of property and participation in discount programs
following termination of employment;
 Use of employer-provided transportation (cars, chauffeurs,
and airplanes);
 Personal use of other listed property (laptops, cellular
phones, and similar telecommunications equipment); and
 Security (transportation and home improvements).
Update on Examinations of
Employer-Provided Fringe Benefits
 Specifically Identified Fringe Benefits in Audit Techniques Guide.
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Skyboxes
Awards and bonuses
Club memberships
Corporate credit cards
Executive dining room
Loans
Outplacement services
Security-related transportation
Spousal/Dep life insurance
Transportation
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Chauffeurs
Employer-paid parking
Transfer of property
EE use of listed property (cell
phones)
Relocation expenses
Non-commercial air travel
Employer-paid vacations
Dependent travel
Wealth Management
Qualified retirement planning
Update on Examinations of
Employer-Provided Fringe Benefits
Instructions to IRS Examiners on How to Identify Fringes
 Check Form 10-K and Form 4
 Form 1120 line items (e.g., travel and entertainment, etc.)
 Request list of 16b executives
 Executives
returns are also frequently requested
 IRS examiners are also asked to take the following steps:
 Identify
the department responsible for approving and
processing payments to executives and officers
 Review the Executive Compensation Committee minutes,
reports, etc.
Update on Examinations of
Employer-Provided Fringe Benefits
Instructions to IRS Examiners on How to Identify Fringes Cont’d
Review loan agreements between the corporation and
executives/officers.
 Identify all payments to, or on behalf of, the
executives/officers.
 Inspect the employment contracts and/or severance
agreements to identify salaries and benefits paid to the
executives.
 Sample monthly expense reports submitted by executives, to
include determining if there is an accountable plan and if the
plan meets the requirements of IRC § 62(c).
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Update on Examinations of
Employer-Provided Fringe Benefits
Instructions to IRS Examiners on How to Identify Fringes Cont’d
 Search
for the executive's name, SSN, or title in Accounts
Payable, to include identifying payments to executives that
were not included on a Form W-2 or Form 1099.
 Request a listing of the specific payroll codes or other
accounting codes that relate to expenses/expenditures for
executives. These codes can be used to identify payments
to the executives/officers that may be taxable as
compensation.
Update on Examinations of
Employer-Provided Fringe Benefits
10 (Loser) Arguments to Justify No Reporting of Fringe Benefits
1. There’s no cost to the employer.
2. The employer did not claim a
deduction for the cost of the
fringe benefit.
3. The benefit was not provided,
arranged, and/or known by the
employer.
4. The employer made the
employee take the benefit.
5. Provision of the benefit lowered
other tax deductible expenses of
the employer.
6. The employee is not having fun.
7. The benefit is worthless.
8. Nobody reports this benefit (or
government employees don’t
pay tax on this benefit.
9. The IRS issues hundreds of
PLRs per year, which have little
or no value as precedent, and we
only violated one of them.
10. The law is too confusing.
Cellular Telephones
and Related Services
Topics Covered by this Section
 Statutory Characterization as “Listed Property” Imposes
Detailed Recordkeeping Requirements.
 Unlike Vehicles, No Streamlined Substantiation Rules
Are Available for Cell Phones.
 Recent IRS Examination Activity.
Cellular Telephones
and Related Services
 Statutory characterization of “listed property”
imposes detailed recordkeeping requirements.
 Section
280F(d)(4)(A)(v) of the Code.
 Interaction with section 274(d)(4) of the Code.
 Related expenses.
 Interaction of working condition fringe exclusion and
accountable plan rules.
 No records = taxation
Cellular Telephones
and Related Services
 No streamlined substantiation rules for cell phones.
 No
personal use or de minimis personal use policies are
authorized under the section 274(d) substantiation rules.
 Sampling is permitted but administratively difficult.
 Recent IRS examination activity.
 Recent
case law support IRS position.
 Reference to cell phones in IRS Audit Techniques Guide
on Fringe Benefits.
Employee Business Expense Reimbursement
Arrangements – “Accountable Plans”
 Reporting, withholding, and deduction of employee
business expenses.
 Reimbursement
reporting requirements for standard
expense accounts that are “accountable plans.”
 Per diem arrangements.
 Car allowance plans.
Mileage allowances.
Runzheimer-type plans.
What is an “accountable plan” under
IRS rules?
 The plan (and any payments, allowances, or reimbursements
under the plan) must meet the following requirements in order
to be “accountable,” i.e., tax-free—
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Business connection: the amounts must be paid for business
expenses paid or incurred by EE in connection with
employment.
Substantiation: the amounts paid must be “substantiated” by EE
within a “reasonable period of time” after expense is paid or
incurred.
Return of spare change: EE must be required to return, within a
“reasonable period of time” any excess part of an advance.
Where did the idea of accountable plans come
from?
 Congress – The Family Support Act of 1988.
 Concerns about taxpayers “tunneling under 2% floor”
following the changes enacted by the Tax Reform Act of
1986.
 Extensive legislative history setting forth guidance for
accountable plans:
 “The Congress viewed an ER’s agreement to reimburse
certain expenditures pursuant to such an arrangement as
evidence that the item was a bona fide, ordinary, and
necessary expense of the ER’s business, and that in
effect the EE was acting as an agent of the ER in paying
for the item.”
 IRS felt empowered to implement strict rules in the 1989
final regulations.
What does it mean to have an
accountable plan?
 If payments, allowances or reimbursements for
business expenses are made under an accountable
plan and the EE meets all the business connection,
substantiation, and return of spare change
requirements with respect to the expenses, the
amounts are excludable from EEs’ income for Form
W-2 reporting and payroll tax purposes.
What does it mean to have a
nonaccountable plan?
 If the employer’s (“ER”) business expense plan does
not meet all of the requirements, the IRS is permitted
to take the position under an “anti-abuse” rule that the
entire plan fails as an accountable plan and,
consequently, all the payments under the plan must be
treated as wages subject to employment taxation. In
other words, retroactive payroll taxes (i.e., Federal
income tax withholding and FICA taxes) could be
assessed against the ER.
Taxation of Reimbursements under Accountable Plan
Rules
 What happens if an EE submits a request for
payment or reimbursement of a business expense,
but that particular request fails to meet all the
requirements of the otherwise accountable plan?
 If all the requirements are not met—for example,
the expense is not a deductible business expense or
the employee fails to timely substantiate the
business nature of the expense—the reimbursement
is fully taxable to the EE and is subject to payroll
tax withholding.
When is an expense a business expense meeting the
business connection requirement?
 A business expense is one that is deductible, because
it was incurred in connection with the performance of
services as an EE of the ER, such as transportation,
meals and lodging, phone calls, tips, laundry, and taxi
fares incurred while away from home overnight on
business.
What happens if the ER reimburses the EE for a
business-related expense that is nondeductible?
 The accountable plan rules permit the
reimbursement of bona fide nondeductible business
expenses without jeopardizing the overall plan. For
example, an EE’s meal expenses while traveling on
a day trip would not be deductible business
expenses, but are still expenses incurred for valid
business purposes. Thus, the ER may reimburse the
expenses, but they must be treated as wages and
subjected to payroll taxes.
What are the elements of
substantiation?
 There must be adequate records or sufficient evidence as to—
 the amount of the expense,
 the time and place of the travel, entertainment, amusement,
recreation, or use of any “listed” property (e.g., cars, planes,
cell phones, and entertainment facilities),
 the business reason for the expense or nature of the business
benefit derived or expected to be derived” from the expense
(i.e., the business purpose of the expense), and
 the business relationship to the ER of any persons entertained.
The “business relationship” information requires not only of
the person’s name and organization, but also of his “title or
other designation” sufficient to establish the business
connection.
Personal Use of Corporate Aircraft
Topics Covered by this Section
 Focus on Characterization of Flights for Fringe Benefits
Purposes Following AJCA Changes to Deduction Disallowance
Rules in Section 274(e)(2).
 The Special Valuation Rule for Personal Use of Company
Aircraft (“SIFL” Method).
Personal Use of Corporate Aircraft
 Focus on Characterization of Flights for Fringe
Benefits Purposes Following AJCA Changes to
Deduction Disallowance Rules in Section 274(e)(2).
 Statutory
override of Sutherland Lumber - Section
274(e)(2) limitation on the deduction for expenses for
entertainment goods, services, and facilities (including
airplanes) provided to “specified individuals.”
 Allocation method imposed by Notice 2005-45 –
occupied seat analysis.
Personal Use of Corporate Aircraft
 The Special Valuation Rule for Personal Use of Company
Aircraft (“SIFL” Method).
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Consistency requirement for Standard Industrial Fair Level
(“SIFL”).
“Control employee” definition.
Additional valuation rule triggered when at least 50% of regular
seating capacity of aircraft is occupied by business passengers.
Valuing side trips.
Security exclusion.
Double hammer when entertainment flights are mischaracterized as
business flights.
Spousal travel – competing deduction disallowance provision.
Supplemental Wage Withholding
Regulations
Topics Covered In This Section
 Increased Supplemental Withholding Rate Enacted
by § 904 of AJCA
 Final Regulations Published on July 25, 2006
 Effective Date of Regulations.
Supplemental Wage Withholding
Regulations
 Increased Supplemental Withholding Rate Enacted
by § 904 of AJCA
 Rate
of withholding increased on supplemental
wages exceeding $1 million to equal the highest
individual marginal tax rate
 Highest individual marginal rate is currently 35%
Supplemental Wage Withholding
Regulations
 Final Regulations Published on July 25, 2006
 “Supplemental Wages”
Defined - essentially, any wages
that are not regular wages. Examples include:
Bonuses
Overtime pay
Tips
Back pay
Commissions
Wages paid under reimbursement or other expense
allowance arrangements
Supplemental Wage Withholding
Regulations
Examples of supplemental wages, Cont’d.
Taxable nonqualified deferred compensation
 Taxable noncash fringe benefits
 Sick pay paid by a third party as the employer’s
agent
 Amounts includible under § 409A
 Income from exercise of nonqualified stock options
 Wages recognized on the lapse of a restriction on
restricted property transferred from employer to
employee
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Supplemental Wage Withholding
Regulations
 Payments that are not wages subject to income tax
withholding are neither regular wages nor
supplemental wages
 Example:
Income from the disqualifying disposition
of qualified stock options
 Exception to treat tips and overtime pay as regular
wages
Supplemental Wage Withholding
Regulations
 Calculation of withholding amount on supplemental
wages:
 Supplemental
wage payments when the aggregate
supplemental wages during the year exceeds $1
million.
De minimis exception for certain payments made by
agents.
Supplemental Wage Withholding
Regulations
 Calculation of withholding amount on supplemental
wages (Cont’d):
 Supplemental
wage payments when the aggregate
supplemental wages during the year does not exceed
$1 million.
The aggregate procedure (applying the employee’s
Form W-4 to the supplemental wage payment).
Optional flat rate withholding
 Post-termination wage payments.
Supplemental Wage Withholding
Regulations
 Rule for employers within the same controlled
group.
 Application of mandatory flat rate withholding
regardless of employee’s personal income tax
liability.
 Vigorous
rejection of comments requesting an
exception for mandatory withholding when employee
is eligible for offsetting income tax credit or
deduction.
Supplemental Wage Withholding
Regulations
 Effective Date of Final Regulations
 Statute
was effective for payments made after
December 31, 2004.
 Final regulations made effective January 1, 2007 to
“give employers time to implement any
programming and coordination by the final
regulations.”
Tax Treatment of Home Sale Expenses
for Relocating Employees
Topics Covered by this Section
 Focus of Rev. Rul. 2005-74, 2005-51 I.R.B. 1153.
 Rev. Rul. 2005-74 Does Not Address the Deduction
Treatment of Losses on Sales.
Tax Treatment of Home Sale Expenses
for Relocating Employees
 Focus of Rev. Rul. 2005-74, 2005-51 I.R.B. 1153
1 – appraised value arrangement.
 Situation 2 – amended value or buyer value option.
 Situation 3 – amended value arrangement.
 Situation
 Rev. Rul. 2005-74 Does Not Address the Deduction
Treatment of Losses on Sales.
 IRS
position.
 Taxpayers’ position.
 Response of TAM 9036003
 Axar Nut.
Murphy’s Law – Tax Treatment of
Damages for Non-Physical Injuries
 D.C. Circuit holds that damages for non-physical
injures ≠ income under 16th Amendment.
 Reactions to Murphy decision.
 “Human
capital” argument.
 Interplay between the 16th Amendment and
Congressional power to tax under Art. I, section 8.
 Potential misuse by tax protestors.
 Petition for rehearing en banc filed October 5. 2006.
Tax Issues Arising in Connection with
Option Backdating
Topics Covered In This
Section
 Statutory Stock Option
Consequences.
 Section 162(m) Deduction
Limit Consequences.
 Section 409A
Consequences.
 Potential for Unintentional
Backdating.
Tax Issues Arising in Connection with
Option Backdating
Statutory Stock Option Consequences.
 ISO
pricing requirement.
 ESPP pricing requirement.
 Consequences of violating pricing
requirement.
Tax Issues Arising in Connection with
Option Backdating
Section 162(m) Deduction Limit
Consequences.
 Pricing
requirement for purposes of qualified
performance-based compensation exception.
 Consequences of violating pricing
requirement.
 Dealing with “bad” options.
Tax Issues Arising in Connection with
Option Backdating
Section 409A Consequences.
 Pricing
requirement for purposes of stock
option exception.
 Consequences of violating pricing
requirement.
 Dealing with “bad” options.
Tax Issues Arising in Connection with
Option Backdating
Potential for Unintentional Backdating.
 Treas.
Reg. sec. 1.421-1(c)(1): A corporate
action constituting an offer of stock for sale is
not considered complete until the date on
which the maximum number of shares that
can be purchased under the option and the
minimum option price are fixed or
determinable.
Tax Issues Arising in Connection with
Option Backdating
Potential for Unintentional Backdating.
 Fact
patterns that might be of interest to IRS.
Oral award of options, with documentation
completed later.
Award authority delegated within specific
parameters, with appropriate approvals
obtained at later date.
miller &chevalier
Chartered
For Further Information
Please Contact:
Marianna G. Dyson
(202) 626-5867
[email protected]