Any employer reimbursing its employees for business-related expenses should consider whether the reimbursement arrangement meets the IRS’s requirements for an accountable plan. Having an accountable plan that meets tax law requirements can provide tax advantages.
Each expense reimbursed under an accountable plan must have a business connection. This means that the expense must be allowable as a deduction and paid or incurred by the employee while performing services as an employee.
Employees must adequately account for their expenses and return any excess reimbursements or allowances within a reasonable period of time. The meaning of reasonable period of time depends on the facts and circumstances, but the IRS has provided several safe harbors.
Substantiation of an expense within 60 days after it is paid or incurred will be deemed reasonable, as will the return of an advance within 120 days. Alternatively, an employer may provide its employees with periodic statements (at least quarterly) that require them to either account for or return any advances within 120 days of the statement.
Expense reimbursements made under an accountable plan that meets the requirements are not included in an employee’s wages and are not subject to federal income or employment taxes. This can be a tax saver for both the employer and the employee.
If no accountable plan is in place, amounts paid to the employee count as taxable wages. The employee can potentially deduct the expenses, but only if the employee itemizes deductions rather than claims the standard deduction. The employee’s deduction for employee business expenses and other miscellaneous expenses is limited to the amount that exceeds 2% of adjusted gross income.