May 25, 2022
In general, the value of statutory fringe benefits paid to employees is exempt from federal income tax. But special rules apply to how fringe benefits for S corporation owners, who own 2% or more of a company, are taxed. For these owner-employees, several fringe benefits are tax-exempt, but others — including some of the biggest benefits — constitute taxable income. Here’s a brief rundown of the tax treatment of fringe benefits for individuals who own 2% or more of an S corporation.
The following benefits typically are taxable for owner-employees:
Health insurance benefits. Normally, health insurance benefits paid by employers on behalf of employees (and eligible spouses and dependents) are tax-exempt. However, amounts paid for 2%-or-more S corporation owners are taxable. If the S corporation owner fully reimburses the employer, the tax liability is removed.
Transportation benefits. Regular employees aren’t taxed on the value of certain employer-provided transportation benefits, including mass transit passes, travel in qualified commuter vehicles or qualified parking fees, up to an annual threshold ($280 per month in 2022). This tax-exempt benefit isn’t extended to 2%-or-more S corporation owners.
Meals and lodging. These may be provided by employers to employees for the employer’s convenience. The benefits typically are tax-exempt if paid for regular employees, but not for 2%-or-more S corporation owners.
Group term life insurance. Under longstanding tax rules, the first $50,000 of employer-provided group term life insurance is tax-free to regular employees. (Any excess is taxable under reasonable rates.) Unfortunately, S corporation owners can’t take advantage of this traditional tax break.
Qualified achievement awards. Achievement awards given to employees in recognition of seniority or safety usually are tax-exempt. With a nondiscriminatory qualified plan, the value of the award can’t exceed $1,600 ($400 for a nonqualified plan). But no such exemption is allowed for 2%-or-more S corporation owners.
Adoption assistance plans. With a written adoption assistance plan, employers may provide benefits to qualified regular employees if certain conditions are met. However, 2%-or more S corporation owners aren’t eligible.
Moving expense reimbursements. Traditionally, regular employees could receive tax-free moving expenses from their employer. But recent legislation suspended this fringe benefit from 2018 through 2025. (There’s an exception for military personnel.) In any event, the tax exemption was never available to 2%-or-more S corporation owners.
Cafeteria plans. Owner-employees can’t take advantage of cafeteria plans that typically allow employees to pick and choose the fringe benefits they want and reject those they don’t.
On the other hand, these benefits generally are tax-exempt for 2%-or-more owner-employees:
Dependent care assistance plans. Employers that offer these types of plans may provide up to $5,000 in annual tax-exempt benefits. To qualify for this tax break, the plan must be in writing. However, benefit payments made to 5%-or-more owners can’t exceed 25% of what the employer pays for all employees.
Educational assistance plans (EAPs). An EAP can pay for up to $5,250 per employee annually. These payments are generally tax-exempt. Courses paid for can be undergraduate or graduate level and don’t necessarily have to be job-related. However, there’s a key restriction: No more than 5% of the cost of the annual benefits under the EAP may be attributable to 5%-or-more owners.
Onsite athletic facilities. This refers to gyms or exercise studios built on business premises for employee use. The value of this type of benefit is tax-exempt to 2%-or-more S corporation owners. Spouses and dependents may also use the facility.
Working condition benefits. These are benefits that would have been deductible as business expenses had the employee, rather than the employer, paid for them. For example, an S corporation owner won’t owe tax on the business use of a company-owned vehicle. However, the value of personal use of the vehicle would be taxable.
De minimis fringe benefits. Certain minor fringe — commonly referred to as “de minimis” — benefits are tax-free to all employees. They can include local transportation fare for employees working overtime; occasional employer-paid dinners; birthday or holiday gifts with a low fair market value; occasional sporting or theater tickets; traditional awards (such as a gold watch upon retirement); and small items given to employees on account of, for instance, illness or good performance.
Employee discounts. Employees may be eligible to receive tax-free discounts on merchandise or otherwise benefit from no-cost or low-cost services. The value of such benefits received by 2%-or-more S corporation owners isn’t taxed.
Putting the Package Together
Understanding which benefits are taxable for owner-employees can help S corporations when designing their fringe benefits packages. If you have any questions about individual perks or assembling your benefits package, contact us.