In one of its last acts before leaving Washington for the holiday break, Congress passed a far-reaching overhaul of the federal Tax Code. Although the benefits-related provisions of the Tax Cuts and Jobs Act (Public Law 115-97) are far less ambitious than those included in the House bill summarized in our November 3, 2017, article, the Act still makes a number of significant changes to the tax treatment of employee benefit plans.
This is the first in a series of articles by which the Spencer Fane LLP Employee Benefits Practice Team will explain many of these key changes. This first article addresses the new rules governing transportation fringe benefits.
The final version of the Act makes fewer changes to employer-provided fringe benefits than the version proposed by the House. Our November 3 article identified four categories of employee fringe benefits slated for elimination by the House bill: dependent care assistance, educational assistance, adoption assistance, and transportation assistance. In the end, most of these benefits survived intact, with the sole exception being transportation assistance. But even here, the final Act differs in significant respects from the House proposal.
The law in effect before passage of the Act clearly encouraged employers to subsidize their employees’ commuting expenses (or at least facilitate their employees’ payment of those expenses on a pre-tax basis, through a salary-reduction arrangement). It did so by allowing employees to exclude qualified transportation expenses from their taxable income (up to $255 per month for either bus passes or parking subsidies; $20 per month for biking-related expenses), while still allowing employers to deduct the expenses from their taxable income. Such an explicit tax subsidy is rare, with the most obvious such subsidy being the exclusion for employer-provided health coverage.
The House bill simply would have repealed the employee tax exclusion for all types of transportation assistance. The final Act adopts that approach only with respect to biking–related expenses. For the period from 2018 through 2025, employees will be taxed on any employer payment of these expenses (although employers will still be able to deduct the payment from their own taxable income).
But the Act adopts exactly the opposite approach with respect to both bus passes and parking subsidies. Employees may continue to exclude from their taxable income the value of any employer-provided subsidy of these benefits (up to $260 per month during 2018), but employers may no longer deduct the expenses associated with these subsidies. This appears to be true regardless of whether the employer pays the expenses directly (such as by providing free or subsidized bus passes) or simply allows employees to pay the expenses on a pre-tax basis (via a salary-reduction arrangement).
Moreover, tax-exempt employers are not immune from this change. To the extent that a taxable employer would be denied a deduction for providing a tax-free transportation assistance benefit, a tax-exempt employer will now owe unrelated business income tax (“UBIT”) on that same benefit.
This denial of a taxable employer’s deduction for providing tax-free transportation assistance, as well as the imposition of UBIT on a tax-exempt employer’s provision of such a benefit, is already effective for 2018. Employers may therefore wonder how they should respond – and when.
Options for Employers
Many employers will elect to maintain their current policies – at least for now. Converting transportation assistance programs to after-tax arrangements, thereby denying employees the benefit of the tax exclusion, would likely be seen by employees as a take-away. Moreover, because the Act also lowers the corporate tax rate from 35% to 21%, the loss of the employer deduction should have less of a negative impact. Presumably, a similar analysis would apply to tax-exempt employers, who must now pay UBIT on any tax-free transportation assistance.
But other employers may decide that retaining the tax deduction (or avoiding the UBIT) is sufficient justification to convert their transportation assistance programs into after-tax arrangements. They might offer payroll deduction for employees who wish to pay for either bus passes or parking on an after-tax basis. Some employers might even be in a position to negotiate free or reduced parking fees from their landlords, thereby sidestepping the taxation issue.
In any event, given the ambiguity in the new statutory language, it might be prudent to wait for either technical corrections or IRS guidance in this area. In the meantime, the tax rules applicable to employees have not changed (other than for biking-related assistance), so maintaining the status quo would also carry the advantage of allowing time for the dust to settle before any employee communications are needed. The Spencer Fane Employee Benefits Practice Team will continue to monitor this situation and provide updates as needed.