In the course of business, it’s common practice for employers to reimburse their employees for certain business expenses. Some examples include:
- Business travel
- Meals and entertainment
- Business use of a personal vehicle
- Tools and supplies
- Education expenses and professional dues
Rather than reviewing and repaying employees as individual expenses are incurred, why not consider creating a policy for employee reimbursement that sets expectations about how and when a request will qualify? Doing so can make your approval process more efficient and even help to better forecast expenses.
In this article, we’ll provide an overview of employee reimbursement policies and information to help you stay compliant with IRS rules.Rather than reviewing and repaying employees as individual expenses are incurred, why not consider creating a policy for employee reimbursement that sets expectations about how and when a request will qualify? Click To Tweet
A General Guide To Employee Reimbursement Policies
What is an employee expense reimbursement policy? It defines which expenses will be reimbursed and offers information on how to go about receiving funds, via an online form or the submission of receipts.
A well-designed policy not only reduces confusion around expenses but it also helps maximize the tax benefits related to expense reimbursement for both employee and employer. (See the section on ‘Are reimbursements taxable?’ for more information on taxes and employee reimbursements.) Employers should regularly refer to the IRS publications to ensure they are up to date on any changes that may occur. It’s imperative to comply with IRS rules in order to avoid penalties—typically, underpayment penalties are 5% of the underpaid amount.
Accountable vs. Non-Accountable Reimbursement Plans
To curb unregulated reimbursement of employee expenses, companies often establish formal policies that address this particular issue. Generally speaking, you can cover employees’ expenses in two ways: through an accountable plan or a non-accountable plan.
An accountable plan is a reimbursement arrangement that requires employees to substantiate their business-related expenses to the company within a reasonable timeframe (no more than 60 days from the date of the expense). The accountable reimbursement plan also sets out how to refund the company any excess advances within a reasonable period (no more than 120 days from the date of incurring or paying the expense); no advances can be made more than 30 days prior to the time of the expense.
The IRS does not mandate accountable plans, but having such a plan in place enables your business to conform to IRS regulations concerning deductible reimbursements and reimbursements that are judged taxable income.
A non-accountable expense reimbursement plan is one that does not satisfy the requirements of an accountable plan.
Any form of non-accountable allowance arrangement is considered supplemental wages that are subject to taxation. Non-accountable plans may include provisions that disqualify:
- Employees who fail to submit and justify expenses in a set period of time; and
- Employees who don’t meet an agreed-upon deadline to return excess allowances or reimbursements.
For example, an employer may provide an employee with a set amount for expenses while traveling on business. Assume the reimbursement plan provides $75 per day for meals and the employee does not need to provide receipts for expenses. The employee is also not required to return the difference between what they actually spend and the $75 allowance. This would be an example of a non-accountable plan.
The assumption in this case is that the employee typically will not spend the full allowance and therefore is receiving some form of payment for services. When employees are reimbursed under a non-accountable plan, the payments will be included as taxable income, but may be deductible as an itemized deduction on their personal income tax return. In this example, the full $75 allowance would be included in the employee’s gross income and the actual expenses incurred would be included as an itemized deduction for employee business expenses, subject to personal income tax limitations.
Do employers need to have an expense reimbursement policy?
Under the Fair Labor Standards Act (FLSA), employers are not required to reimburse employees for business expenses. However, such expenses may not reduce non-exempt employees’ wages below the minimum wage, nor decrease their overtime compensation (state law may require employees to be reimbursed for business expenses). Depending on what type of expense is reimbursed, the amounts received may count as taxable income.
What expenses should a business cover?
Although employers may not be required to cover certain expenses incurred by employees, it’s still customary to do so. If an employee spends money on the company’s behalf, they may do so with the expectation that they will be reimbursed. Clear policies can help define your company’s practice.
When writing the policy, the employer should know/understand what is an allowable expense (if not, refer to the IRS 535 publication for clarification). Allowable expenses can be defined as necessary to the operation of the business—and then decide how expenses will be paid for and reimbursed.
What are reimbursable expenses?
Some of the most common employee expenses fall into the categories of:
- Business-related travel. Airfare, train, and/or other transportation expenses should be considered reimbursable expenses.
- Meals. Employees should also be reimbursed for meals as part of travel or business-related activities. Often, businesses impose a limit on meal expenses, keeping them within a reasonable range. Per-diem arrangements may be considered, eliminating the need for employees to submit meal receipts.
- Smartphones. As the need increases for extended accessibility to calls, voicemail, and emails, smartphone plans are another commonly reimbursable expense.
- Accommodations for travel. Lodging costs incurred as part of business-related travel are usually regarded as reimbursement expenses. Again, a per-diem arrangement may be preferable to employees submitting receipts.
- Training. Costs relating to employee training and development also fall under the umbrella of reimbursable expenses.
Small businesses also customarily reimburse for certain expenses incurred in connection with employees’ assigned job functions.
Reimbursing Business Expenses
Any business expense should be substantiated before an employee is reimbursed. In the case of mileage, a travel log prepared by the employee is acceptable. For ease of tracking, you can ask employees to use an app to input all business-related expenses for reimbursement. Receipts can be scanned and saved to reduce paperwork.
To avoid the need for reimbursement, some employers consider giving employees who purchase items on a regular basis a business credit card. In these cases, it’s considered a best practice to maintain separation of duties, and all credit card purchases should be reviewed and paid by someone other than the purchaser.
Are reimbursements taxable?
Paying wages to employees always involves withholding and contributing taxes, but with reimbursements it all revolves around accountable and non-accountable plans. That’s because IRS reporting requirements are built around these two types of plans.
Business expenses reimbursed under a non-accountable plan are considered income to the employee and must be included as such in the employee’s W-2. This type of reimbursement is also subject to employment taxes both for the employee and employer that can include withholding taxes, FICA, and federal and state unemployment taxes.
Employers may consider the additional paperwork a disadvantage to adopting an accountable plan, but an advantage that may offset this additional work is the avoidance of added payroll taxes under the non-accountable plan.
Also consider how your employees will perceive reimbursements under each type of plan. The accountable plan allows employees to receive reimbursements without any personal income tax effects. The non-accountable plan increases gross income reported to the employee, with the option to deduct the business expenses personally. As itemized deductions, the expenses may or may not be deductible depending on the employee’s individual tax situation.
Consider the advantages and disadvantages to each type of plan in deciding how to structure the reimbursement of employee business expenses.
Taxable Reimbursements and Payments
There are a number of reimbursable business expenses that are generally taxable for the employee:
- Personal use of a company car. If you provide your employees with a vehicle for business and an employee uses it for personal reasons, part of the associated expense may be subject to taxation.
- Trips and prizes. Prizes that are given in the form of goods or services must be reported with an employee’s income for their fair market value. An example of this might be a performance-related trip for employees who meet their sales goals.
- Services. If your company provides benefits or services such as accounting or legal advising, the value of those services should be reported as salary or wages.
Generally Non-Taxable Employee Reimbursements
The following reimbursements are generally non-taxable. Note that many categories have specific guidelines that govern their taxability, so it’s important to consult appropriate resources before proceeding.
- Approved employee business reimbursements that conform to IRS expense reimbursement guidelines
- Educational reimbursements up to a maximum of $5,250 per year
- Specific insurance premiums including: up to $50,000 in group life insurance coverage, accident and health benefits, and the employer’s share of COBRA contributions
- Gifts with a minimal value or awards such as plaques and trophies
- Discounts of up to 20% on employer-provided goods or services
- Retirement planning services offered as part of a qualified retirement plan
- Meals or lodging provided on the work site, if specific guidelines are met
- Using a company van for commuting, provided specific guidelines are met
- Up to $280 per month worth of transportation-related fringe benefits such as free parking, van pooling, or transit passes
Deal with fewer reimbursement headaches, and get back to what you excel in.
Reimbursement—and all of payroll—doesn’t need to be flashy. It needs to be done right. GenesisHR has been doing payroll the right way since 1991—our experts can spot anomalies because we know your business and know what to expect. We’d love to remove the burden of payroll and taxes from your plate. Contact us today to see how we can help you with everything from multi-state payroll processing and tax filings to reporting, reimbursement, and more.