Every business has expenses. Sometimes, however, it falls to the employee to shoulder those work-related costs using their own money, with the promise that they will receive reimbursement.
Such reimbursable expenses are often incurred during travel, at business lunches, to purchase necessary tools and supplies, or when an employee must use a personal cell phone for a work-related call, among other examples.
Some states, like California and Illinois, even have mandates requiring companies to pay back their employees for reasonable expenses like these.
Nonetheless, reimbursement from your employer isn’t as easy as simply holding your hand out for some cash — and not understanding expense reimbursement can have negative impacts. A poorly-managed expense reporting system is frustrating for the employee, and the misclassification of expenses can wreak havoc on a company’s accounting.
Even worse still, incorrect reporting by the employer can sometimes cause the employee to overpay payroll withholding taxes.
Therefore, many employees have specific questions about how reimbursement works. For example, what are the rules governing reimbursable expenses? Do employees need to report reimbursements as income or wages? And just what is an “Accountable Plan,” anyway?
In this post, I’ll provide answers to the above, as well as other questions related to employee expense reimbursement, such as:
To begin, let’s examine the following question in more detail.
The expense reimbursement process enables an employer to pay funds back to an employee for business-related expenses they paid for with their own money. It is also an opportunity to create a policy that outlines procedures and sets clear expectations.
A good expense reimbursement policy clarifies which expenses are and are not covered and explains how the employee may go about requesting reimbursement and what documentation, such as receipts, they will need.
Additionally, a well-crafted policy can maximize tax benefits for both parties, the employer and the employee.
The Fair Labor Standards Act does not make employee expense reimbursement mandatory (although it does forbid an employee’s expenses to bring their wages lower than the applicable minimum wage or eat into their overtime wages). Nevertheless, it is considered customary and is common practice for businesses to cover certain expenses.
To put it simply, employers should cover expenses necessary to the operation of the business or the employee’s ability to complete the duties and responsibilities of their job. However, what exactly that means for a given business specifically is open to interpretation.
For example, if an employee’s job requires travel, the employer may cover meals and lodging. Even entertainment expenses meet the criteria defined by IRS Publication 463 if these purchases can be shown to have a clear business purpose.
Gasoline and auto mileage costs related to using a personal vehicle to travel for work are often reimbursable, as are business phone calls. Some additional examples include:
On the other hand, some examples of expenses your employer will most likely refuse to reimburse include:
Generally speaking, employees are not required to report reimbursements as income or wages and therefore are not taxable. Nevertheless, there are some exceptions.
For example, if your employer provides you with a company car, but you use it for personal reasons, some of the costs may be taxable to you. Additionally, if you receive prizes in the form of goods or services, you must report them with your income at fair market value (FMV).
On the other hand, many categories of reimbursable expenses are nontaxable for the employee provided specific requirements are met. These include:
It’s worth noting that many of the above categories do come with specific guidelines that determine their taxability. It’s never a good idea to assume an expense reimbursement is nontaxable without consulting resources or experts.
While the IRS does allow employers to reimburse employee expenses through payroll, some tax implications can come with doing it this way. For example, if the reimbursement is not made as part of an accountable plan, it will be taxable to the employee as wages.
In fact, any reimbursement payments made to an employee that are not under an accountable plan are taxable to the employee and subject to withholding.
This brings me to the next question…
An accountable plan is simply a formalized process by which an employee documents their expenses, submits a request for reimbursement, and returns any excess funds. If you’ve ever had to turn in a receipt or record an expense to receive a reimbursement, that’s an example of an accountable plan.
This kind of arrangement has benefits for both the employee and the employer. For the employee, it keeps their reimbursements nontaxable. Meanwhile, the employer can write the same expenses off on their business tax return.
While accountable plans are certainly the norm, some companies choose to forego one in favor of a nonaccountable plan. A company may choose this route for various reasons, such as a desire to minimize record-keeping. Under a nonaccountable plan, reimbursements count as wages and are taxable to the employee.
As mentioned above, reimbursements paid under an accountable plan are not considered taxable income, and therefore you do not need to report them to the IRS.
If an employer reimburses the expenses under a nonaccountable plan, the employer reports the reimbursement as taxable wages to the employee on Form W-2 and takes a wage expense deduction.
In either event, it does not fall to the employee to report expense reimbursements to the IRS.
When an employee must cover work-related expenses with their own money, it can be helpful to know that their employer will reimburse them for their trouble. But a poor understanding of employee expense reimbursement can lead to unwanted tax implications.
By better understanding how reimbursement works, you can engage in your work-related expenses more confidently.
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Above & Beyond
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Jeff Coyle, CPA, Partner of Rosenberg Chesnov, has been with the firm since 2015. He joined the firm after 20 years of business and accounting experience where he learned the value of accurate reporting, using financial information as a basis for good business decisions and the importance of accounting for management.
He is a diligent financial professional, able to manage the details and turn them into relevant business leading information. He has a strong financial background in construction, technology, consulting services and risk management. He also knows what it takes to create organizations having built teams, grown companies and designed processes for financial analysis and reporting.
His business experience includes:
Creating and preparing financial reporting, budgeting and forecasting.
Planning and preparation of GAAP and other basis financial statements.
Providing insight on financial results and providing advice based on those results.
Jeff also has a long history of helping individuals manage their taxes and plan their finances including:
Income tax planning and strategy.
Filing quarterly and annual taxes.
General financial and planning advice.
Prior to joining the firm in 2015, Jeff was in the private sector where he held senior financial and management positions including Controller and Chief Financial Officer. He has experience across industries, including construction, technology and professional services which gives him a deep understanding of business.
Jeff graduated from Montclair State University, he is a CPA and member of the American Institute of Certified Public Accountants, New York State Society of Certified Public Accountants and New Jersey State Society of Public Accountants.
Jody H. Chesnov, CPA, Managing Partner of Rosenberg Chesnov, has been with the firm since 2004. After a career of public accounting and general management, Jody knows the value of good financials. Clarity, decision making, and strategy all start with the facts – Jody has been revealing the facts and turning them into good business results for more than three decades.
He takes a pragmatic approach to accounting, finance and business. His work has supported many companies on their path to growth, including helping them find investors, manage scaling and overcome hurdles. His experience and passion for business reach beyond accounting and he helps businesses focus on what the numbers mean organizationally, operationally and financially.
He has a particular expertise in early-stage growth companies. His strengths lie in cutting through the noise to come up with useful, out of the box, solutions that support clients in building their businesses and realizing their larger visions.
Prior to joining the firm in 2004, Jody was in the private sector where he held senior financial and management positions including General Manager, Chief Financial Officer and Controller. He has experience across industries, which gives him a deep understanding of business.
Jody graduated with a BBA in Accounting from Baruch College, he is a CPA and member of the American Institute of Certified Public Accountants and New York State Society of Certified Public Accountants.
In addition to delivering above and beyond accounting results, Jody is a member of the NYSCPA’s Emerging Tech Entrepreneurial Committee (ETEC), Private Equity and Venture Capital Committee and Family Office Committee.
He is an angel investor through the Westchester Angels, and has served as an advisor for many startup companies and as a mentor through the Founders Institute.
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