United States: Navigating The Complex Tax Rules For Employee Travel Expenses: Part 2

Employers often pay for an employee's business-related travel expenses. An employer must apply complex tax rules to figure out whether the payment is taxable to an employee. This article completes a two-part series that discusses how employers can navigate the rules.

The first article presented two steps and questions within those steps to determine whether an employee's travel to a specific work location is away from his or her tax-home work location. This determination is important because all expenses paid by an employer related to travel to a work location that is away from the employee's tax-home work location are nontaxable to the employee (tax code Section 162(a)(2)). This includes transportation, meals and lodging.

If an employee is not away from his or her tax-home work location, then amounts paid by an employer for lodging and meals in connection with the travel are taxable to the employee, except for business-related meals (for example, a meal with a customer).

On the other hand, transportation expenses, such as automobile mileage paid by the employer, may still be non-taxable even if the employee does not satisfy any of the criteria for being away from his or her tax-home work location. This article explores whether transportation expenses paid for travel that is not away from an employee's tax-home work location home are taxable.

First, it is important to note that based on Rev. Rul. 55-109, any transportation expenses paid by an employer for an employee's transportation between two work locations are non-taxable. In that situation, no further analysis is required. As noted in Part 1, transportation expenses paid by an employer for travel between an employee's personal residence and tax-home work location are taxable to the employee.

The focus in Part 2 is transportation between an employee's personal residence and a work location other than the employee's tax-home work location. This article picks up where the first article left off by starting with Step 3.

STEP 3

Rev. Rul. 99-7 provides that costs for transportation between a taxpayer's personal residence and a temporary work location are deductible. Thus, employers can pay for these costs on a tax-free basis to employees. In CCA 200026025, the IRS states that if there is a realistic expectation that an employee will perform services at a work location for no more than 35 workdays (or partial workdays) during a calendar year, then employment at that location may be treated as temporary for a calendar year in which the employee actually works no more than 35 workdays (or partial workdays) at that location. Thus, if an employee goes to a work location 35 days or less in a calendar year, the transportation expenses paid by the employer are non-taxable to the employee, and no further analysis with respect to that location is required. Based on this, we suggest that an employer answer the following question:

Does the employee spend 35 days or less in a calendar year at the work location? Note that in answering this question, a day counts as a full day even if the employee is at the work location for only part of the day.

If the answer is yes, then expenses paid by the employer for the employee's transportation expenses are non-taxable to the employee. If the answer is no, the employer should proceed to Step 4 because further analysis is required to determine whether the transportation expenses paid by the employer are taxable or non-taxable to the employee.

STEP 4

Rev. Rul. 99-7 provides that if a taxpayer's residence is the taxpayer's principal place of business within the meaning of tax code Section 280A(c)(1)(A), the taxpayer may deduct daily transportation expenses incurred in going between the residence and another work location in the same trade or business, regardless of whether the work location is regular or temporary and regardless of the distance. Thus, if an employee qualifies for this treatment, transportation expenses paid by the employer are non-taxable, and no further analysis is required. Under Section 280A(c)(1), a portion of the personal residence must be used exclusively by the employee for administrative or management activities, and there must be no other fixed location of the trade or business where the employee conducts substantial administrative or management functions. In addition, the personal residence must be used for the convenience of the employer.

To apply the rules described above, we suggest that an employer start by answering the following question:

Does the employee use a portion of his or her residence exclusively for administrative or management activities related to the employer?

If the answer is no, the employer should skip to Step 5 for further analysis, since the employee does not qualify for this special home office rule. If the answer is yes, the employer should answer the following additional question:

Is there any other work location of the employer where the employee performs substantial administrative or management activities for the employer?

If the answer is yes, then the employer should skip to Step 5, since the employee does not qualify for this special home office rule. If the answer is no, then the transportation expenses that the employer pays related to the work location are non-taxable to the employee, as long as the employee's use of his or her personal residence is for the convenience of the employer. If an employee is using a portion of his or her residence exclusively for the employer's business, that use is probably a convenience to the employer.

STEP 5

As noted earlier, Rev. Rul. 99-7 provides that a taxpayer may deduct daily transportation expenses incurred in going between the taxpayer's residence and a temporary work location. The ruling provides rules for determining whether a work location is temporary. Under the ruling, if employment at a work location is realistically expected to last (and does in fact last) for one year or less, the employment is temporary in the absence of facts and circumstances indicating otherwise. If employment at a work location is realistically expected to last for more than one year or there is no realistic expectation that the employment will last for one year or less, the employment is not temporary, regardless of whether it actually exceeds one year. If employment at a work location initially is realistically expected to last for one year or less, but at some later date the employment is realistically expected to exceed one year, the employment will be treated as temporary (in the absence of facts and circumstances indicating otherwise) until the date that the taxpayer's realistic expectation changes; it will be treated as not temporary after that date.

CCA 200026025 provides break-in-service rules for purposes of applying the one-year rule in Rev. Rul. 99-7. It provides that if there is a continuous break of seven months or more, the one-year clock is stopped, and starts again if and when the employee resumes employment at the work location. It also provides that a break of three weeks does not stop the clock. No guidance is provided with respect to breaks that are between three weeks and seven months.

Thus, an employer needs to adopt a rule with respect to breaks that are between three weeks and seven months. The most conservative approach is to adopt a rule that only a break of seven months or more is sufficient to stop the one-year clock, and that any breaks that are less than seven months will not stop the one-year clock. The remainder of this article assumes that the employer has adopted the most conservative approach, since such an approach ensures that the employer will not treat a transportation expenses as nontaxable in situations where the IRS might take a contrary position.

To apply these rules, we suggest the employer ask the following questions in the order presented:

Has the employee been going to this work location for more than one year?

To answer this question in a manner that accurately applies the rules, the following instructions are necessary:

Answer yes even if the employee has not gone to this location on a regular schedule, and even if the employee has not gone frequently.

If the employee has had a break of seven months or more in the past during which he or she completely stopped going to the location, answer yes only if the employee has been going to the work location for more than one year following the break.

If the answer is yes, then the work location is not temporary, and any transportation expenses paid by the employer are taxable to the employee. No further analysis is necessary.

If the answer is no, the employer should continue to the following question:

Do you anticipate that when you add the time the employee has been going to this location and the future time that you anticipate the employee will be going to this location, it will add up to more than one year?

To answer this question in a manner that accurately applies the rules, the following instructions are necessary:

Answer yes even if the employee's work at this location is not on a regular schedule and even if it is infrequent.

When you count the time the employee has been going to this location, if the employee has had a break of seven months or more in the past during which he or she completely stopped going to the location, count only the time the employee has gone to the location since the break.

When you count the future time that you anticipate the employee will be going to the location, if you anticipate that the employee will have a break of seven months or more in the future during which he or she completely stops going to the location, count only the time you anticipate the employee will go to the work location before the break.

If the answer is yes, then the work location is not temporary, and any transportation expenses paid by the employer are taxable to the employee. No further analysis is necessary.

If the answer is no, then the work location is temporary. Any transportation expenses paid by the employer are nontaxable to the employee. No further analysis is necessary.

In summary, the rules for determining whether transportation expenses paid by an employer are taxable to an employee are complex. An employer can get to the correct answer regarding taxation by answering a series of questions that apply the rules.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.