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Fringe benefits and imputed income: what employers should know

Updated: September 23, 2022

By: Jon Davis

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More than half of workers say that they’d consider jumping to a new job if it came with better pay, according to research. For employers looking to attract and retain employees in this competitive market, it can help to remember that ⁠— while wages are important ⁠— not all compensation comes in the form of a paycheck.

 

In addition to building a benefits package that’s filled with the perks employees want most, many employers sweeten job offers and day-to-day work life by offering non-monetary compensation ⁠— like company vehicles or memberships to local health clubs. Commonly referred to as fringe benefits, these perks come in many forms ⁠— and are sometimes considered taxable compensation (known as “imputed income” in the eyes of the IRS).

Let’s take a closer look at what employers need to know about offering fringe benefits and imputed income, handling the taxes accurately, and accounting for everything to stay compliant (and keep Uncle Sam happy).

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What are fringe benefits?

Fringe benefits come in many forms, but one thing they have in common is that employees typically receive them in addition to their regular salary. These perks tend to increase retention, and they can range from life insurance to tuition assistance to employee discounts. Whatever they happen to be, the IRS considers many fringe benefits as a form of taxable employee compensation.

Are fringe benefits required?

While this article focuses on fringe benefits and how they relate to imputed income, keep in mind that some benefits and insurance are often required. We go into more detail on benefits employers are required to offer in another article.

Are fringe benefits taxable?

It depends. Some fringe benefits are fully taxable, some are partially taxable, and some are tax-free for employees. We’ll get into more details below, but the rule of thumb is that any form of compensation or benefit provided to an employee is subject to tax unless the IRS has explicitly ruled it’s not.

What are some taxable fringe benefits?

Most fringe benefits are considered taxable forms of non-monetary compensation. Keep in mind that, similar to how a standard employee’s wages are reported, taxable fringe benefits will need to be accounted for on an employee’s W-2. (Our in-depth guide on how to complete a W-2 form gets into a bit more detail if you’re stumped.)

 

Some common examples of these taxable fringe benefits are listed in the chart below ⁠— but for any specific questions, it’s best to speak to your accountant or bookkeeper if you’re at all unsure about your obligations.

 

Fringe benefits considered taxable compensation
Regular wages Cell phone and/or company vehicles (if used outside of business tasks)
Overtime Employer-paid commuter fees in excess of $280/month
Bonuses Employer-paid parking that is greater than $280/month
Vacation payout Employer-provided bicycle commuting assistance
Back-pay awards Fringe benefits (unless specifically excluded)
Commissions Group legal services
Gifts, gift cards, cash, prizes, awards Group-term life insurance over $50,000
Tips Reimbursed moving expenses
Severance pay or last paycheck Noncash fringe benefits like gym membership
3rd Party sick pay & disability benefits Jury duty

 

What are some non-taxable fringe benefits?

The fringe benefits that are considered non-taxable are those that fall under specific IRS exclusion rules. For example, the IRS has ruled that job-related education is generally not considered a taxable benefit. In most cases, these excluded benefits are not subject to traditional federal income tax withholding such as Social Security, Medicare, or FUTA taxes and you wouldn’t need to report them on a W-2 form. The IRS spells out conditions that can apply and it always pays to discuss the details with your accountant or bookkeeper.

 

Some examples of non-taxable fringe benefits are listed in the table below.

 

Non-taxable fringe benefits
Dependent child care assistance (up to $5,000) under a section 129 plan Contributions to cafeteria 125 plans
Company vehicle – Business use only

Company cell phone – Business use only

No-additional cost fringe benefits
De minimis fringe (we go into more detail on what these benefits are in the next section) Health Savings Account Contributions
Disability benefits (employee contribution) Reimbursed business expenses
Educational assistance for job-related courses (no limit) On-premises athletic facilities
Group-term life insurance of $50,000 or less Long-term care insurance

 

As we get closer to the fringe benefits finish line, there’s one more type we’ll cover.

What are de minimis fringe benefits?

De what? De minimis benefits are low-value fringe benefits that are usually not subject to tax. The minimis means “minimal.” It’s a fancy way of saying Uncle Sam doesn’t put much — if any — resources to account for them since they tend to be of little monetary value. For example, you might bring coffee and donuts to the office as a team pick-me-up. In the eyes of the IRS, that’s considered a de minimis (minimal) benefit. Value aside, your team will still probably appreciate them.

 

Here are some more examples of de minimis fringe benefits:

 

De minimis fringe benefits
Occasional printing of personal letters Occasional personal use of company copier
Occasional tickets to sporting events or the theater Traditional holiday gifts of small value (turkey, candy)
Coffee and snacks in break room provided to employees Occasional use of company telephone for local personal calls
Occasional Meals Occasional parties and picnics

 

So, now that we’ve covered different types of fringe benefits, you might be curious how offering them can affect out-of-pocket costs. Whether it’s extending an offer to a candidate — or just accounting for them in your expenses.

What is a fringe benefit rate and how do I calculate it?

To understand your total labor costs — meaning the wages you pay and the cost of the fringe benefits you provide per employee — you’ll need to calculate your fringe benefits rate. Simply put, a fringe benefit rate is the percentage of an employee’s wages relative to the fringe benefits they receive.  It’s calculated by dividing the total cost of an employee’s fringe benefits by the wages they’re paid and there’s an easy formula for employers to follow:


Fringe Benefit Rate = (Total Fringe Benefits / Annual Salary ) X 100

 

Don’t let the calculation above intimidate you. Let’s go a bit further so you can see how it can be used when figuring out your fringe benefit rate:

  • Let’s say you have a salaried employee that gets paid $50,000 a year
  • And the value of the fringe benefits — things like life insurance or education assistance mentioned earlier in the article  — provided to the same employee adds up to a total of $10,000 per year
  • To get the fringe benefit rate (in this example) you’ll divide 10,000 by 50,000
  • The result would be .2. For the next step, you’ll then multiply the number by 100
  • So, we’ll take .2 and multiply it by 100. Which equals: 20% And there you go! That is the fringe benefits rate

 

So in our example, the employer is paying an additional 20% (in the form of fringe benefits) to the employee on top of their base wages. When in doubt, it always pays to talk to a tax professional or bookkeeper to get into the finer details of calculating your fringe benefit rate.

 

Next, we’ll touch on the overlap between fringe benefits and imputed income. They’re not the same thing, and employers are responsible for knowing what technically qualifies as income and what does not.

What is imputed income?

Basically, imputed income is the value of any non-cash compensation an employee receives in the form of fringe benefits. While imputed income is not part of an employee’s salary or wages, it’s usually taxable and added to an employee’s gross wages to withhold employment taxes.

 

So, imputed income won’t be an actual dollar amount in an employee’s take-home pay, but it’s recorded as income on a paycheck, so it can be taxed appropriately.

How do you calculate imputed income?

When employers provide taxable fringe benefits, they’re responsible for calculating and recording imputed income for the employee. And in most cases, the IRS wants you to use the general valuation rule to determine the value of a fringe benefit. According to the rule, the value of the benefit is its “fair market value” or FMV.

 

Fringe benefit value

Generally, the FMV is the going rate of what your employee would pay for the service or product, based on figures from real-life businesses. So, if you provide daycare for parents in your workplace at say $500 per month, the FMV is roughly the same as what a person who walks in off the street would pay.

 

Imputed income in action

 

Example: Non-job related tuition reimbursement 

Let’s say you offer an educational assistance program and cover costs related to school expenses — items such as books, tuition, and supplies. But, what the employee learns in class is not related to the job they perform. For example, Ted is earning a degree in psychology, but worked part-time in your IT department over the summer.  You decide to offer him a full-time position and decide to pay for his last college semester as a fringe benefit.

  • Since school is not related to the job role, according to IRS rules you’d be able to exclude up to $5,250 of the amount of the educational benefit. But for anything above that dollar amount, the difference is included in Ted’s taxable income.
  • So, if Ted receives $10,000 in educational assistance, the imputed income ⁠— or the dollar amount Ted is paying taxes on ⁠— is $4,750 (10,000 minus 5,250).
  • To be clear, Ted is not paying $4,750 cash out of pocket for school. The dollar amount is added to his reported income for tax purposes.

 

Example: Employee commuter benefits

Or maybe you decide to help with employee commuter costs — either for those who take public transportation or who hit the road in their own vehicle.

  • Per the IRS rules on transportation fringe benefits, you’d be able to exclude up to $280, per month for parking, vehicle transportation or transit passes.
  • So, if the employee receives $400 for help with putting rubber to the road or hopping on a bus, the imputed income (or dollar amount they are paying taxes on) is $120.

 

These are just a couple of example scenarios. But as you probably figured, beyond these examples there are many more forms of remuneration that the IRS considers to be imputed income.

 

Example: Employee commuter benefits

Or maybe you decide to help with employee commuter costs — either for those who take public transportation or who hit the road in their own vehicle.

  • Per the IRS rules on transportation fringe benefits, you’d be able to exclude up to $280, per month for parking, vehicle transportation or transit passes.
  • So, if the employee receives $400 for help with putting rubber to the road or hopping on a bus, the imputed income (or dollar amount they are paying taxes on) is $120.

 

These are just a couple of example scenarios. But as you probably figured, beyond these examples there are many more forms of remuneration that the IRS considers to be imputed income.

 

Include imputed income on payroll

As an employer, you can add the value of taxable fringe benefits to employee wages each pay period. So to calculate the gross income your team members will pay taxes on, don’t forget you’ll need to add fringe benefits — or the actual imputed income ⁠— to their salary.

 

For example, an employee receives a salary of $5,000 per month, plus an additional net income of $500 per month in the form of imputed income. In this case, the worker’s taxable wages for federal and state taxes, Medicare and social security, and deductions would be $5,500.


Imputed income on pay stubs

When you go to record your employees’ imputed income when processing payroll, there’s a good chance you’ll use a separate pay or earnings item other than their regular salary, hourly, or overtime wages. Since these items will appear on employee pay stubs, it could cause a little bit of confusion for anyone taking a closer look.

 

Communication can be the key to keeping everyone informed and understanding that they’re still being paid correctly. You may be able to customize the name of additional pay items or add a message directly to pay stubs. You could also have your accounting (or payroll or HR) team reach out to your staff via email, (or whatever method you’re using to share internal messages).

 

For instance, if you’ve handed out gift cards as a small bonus, the email could include some details along these lines:

  • Everyone received a $50 gift card from management.
  • It will appear on your next pay stub in a line item called ‘gift card’ (since it needs to be recorded as income).
  • For any questions, reach out to accounting and we’ll do our best to help.

 

There are many online payroll services that make it simple to add these types of items to pay stubs within a couple of mouse clicks.

 

Giving employees additional pay to work less desirable shifts — a practice known as a shift differential — is another way to attract and retain talent in a competitive job market.

Final thoughts on fringe benefits

Fringe benefits could give you an edge with job seekers on the hunt for more than a paycheck — since according to our research, paid leave and retirement plans appear among the benefits employees want most. Even if your employees do pay some taxes on imputed income, it might attract a great candidate who thinks about more than just the dollars and cents.

 

Check out our guide to offering employee benefits to learn more about the perks that appear toward the top of many employee wishlists. No matter what combination of benefits you decide to provide your employees, it’s another great way to look after your team and keep a step ahead of the competition when hiring.

 

This article is for informational purposes only and should not be relied on for tax, legal, or accounting advice. You should consult your own tax, legal, and accounting advisors for formal consultation.

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Jon Davis is the Content Marketing Manager at OnPay. He has over 15 years of experience writing for small and growing businesses. Jon lives and works in Atlanta.