Accountable Plans are more important than ever. Most employers reimburse their employee business expenses, but did you know that the structure of the reimbursement arrangement can have huge tax consequences. According to the tax rules, the key distinction between a true expense reimbursement and disguised compensation is whether the employer’s payments are made in accordance with what the IRS calls an “accountable plan.”
Accountable plans are an IRS-approved way to reimburse employees for various business expenses in a tax-advantaged manner. Everyone wins … employees are not taxed on reimbursements (the reimbursements not even reported on W-2s) and employers don’t pay employment taxes on the reimbursements.
Accountable plans basically require employees to substantiate all reimbursed expenses and return any advances more than expenses incurred. If an employer has an accountable plan in place, expense reimbursements and allowances to employees, who properly comply with the terms of the plan, are deductible by the company (subject to the 50% limit for business meals) and nontaxable to the employees.
If a company maintains a nonaccountable plan or an employee fails to comply with the company’s accountable plan, expense reimbursements and allowances are still deductible by the company. However, they are taxable to the employee as compensation. Thus, such amounts are included on the employee’s Form W-2 and subject to income tax withholding. In addition, both the employer and employee are subject to employment taxes on such payments.
While many of the provisions of the Tax Cuts and Jobs Act were favorable to your business, there is a very unfavorable change for employees. The Act suspended for 2018 through 2025 the miscellaneous itemized deduction for unreimbursed employee business expenses. This deduction had allowed employees who itemized their deductions to write-off their work-related costs as a deduction to the extent they exceeded 2% of adjusted gross income (AGI). So, the net effect of this is any reimbursements under a non-accountable plan are included in the employee’s income the new tax law ensures that there is no chance of the employee being able to write off the business expense.
The accountable plan is by far the best strategy to minimize taxes, Because of the many issues that accountable plans entail, it’s a good idea to work with a benefits expert so you get things right. Contact John Csargo at firstname.lastname@example.org for guidance in this area or other business tax related questions..