Payroll in Practice: 6.21.2021

Practitioners’ questions are answered by a payroll and tax consultant who also is an enrolled agent licensed to practice before the Internal Revenue Service.

Question: The following passage regarding de minimis fringe benefits may be found on the IRS website:

“Whether an item or service is de minimis depends on all the facts and circumstances. In addition, if a benefit is too large to be considered de minimis, the entire value of the benefit is taxable to the employee, not just the excess over a designated de minimis amount. The IRS has ruled previously in a particular case that items with a value exceeding $100 could not be considered de minimis, even under unusual circumstances.”

Does the last sentence mean that, as long as it is not a gift certificate, an item valued under $100 is considered de minimis?

Answer: We need to be careful in relying on statements on the IRS website or in its publications. The information is from the IRS’s point of view, often does not tell the entire story, usually does not come with citations, and may depend upon the intended audience.

This statement comes from pages intended as guidance for governmental entities. There are also resources on the IRS website that target Indian tribal governments, charities and not-for-profit organizations, self-employed and small businesses, and individuals. The various areas sometimes describe the rules differently.

In some situations, the actual rules are different. For example, the federal maximum per diem rates for lodging as applied to federal employees are the maximum amount a federal employee may be reimbursed, but the employee’s reimbursement may also not exceed the employee’s substantiated cost.

For other employers, the federal rates, or lesser rates that the employer sets, are deemed to be the substantiated cost for accountable reimbursement plan purposes. Furthermore, other employers may use the high-low method. This method is not an option for federal government employers.

The “particular case” referred to on the IRS website is quite likely from Technical Advice Memorandum (TAM) 200108042. The IRS, in Publication 5137, “Fringe Benefit Guide,” made a similar statement that referenced this TAM:

“The IRS has given advice at least once, in 2001, that a benefit at $100 did not qualify as de minimis. However, this technical advice addresses a specific situation and cannot be relied upon in addressing another specific situation. Chief Counsel Advice 200108042.”

A technical advice memorandum, or TAM, is guidance furnished by the Office of Chief Counsel in response to technical or procedural questions that developed during a proceeding. The advice provided in the TAM represents a final determination of the position of the IRS, but only with respect to the specific issue in the specific case in which the advice is issued and cannot be relied on as precedent in other circumstances.

The statement in the TAM was more specific than the webpage and publication statements:

“Thus, if an employer distributes turkeys, hams, or other merchandise of nominal value to its employees at holidays, the value of these items would not constitute salary or wages. Conversely, non-monetary achievement awards having a fair market value of $100 would not qualify as de minimis fringes and, consequently, would constitute salary and wages.”

The item discussed in the TAM was described as having a fair market value of $100. It was not an item with “value exceeding $100.” All the IRS said in the TAM was that a $100 achievement award, in that particular situation and for that particular employer, was not de minimis.

Unfortunately, the TAM does not provide the value at which the award could be considered de minimis. The IRS has a general principle of basing a ruling related to de minimis value to the facts and circumstances of the situation rather than establishing a bright-line dollar amount.

In some cases, with specific sets of circumstances, the IRS has indicated bright line amounts. For example, the $4 maximum for qualifying promotional items that may be excluded for business gift limitation purposes. However, in another case, $5 in taxi fare was not de minimis because of the frequency with which it was provided to the employee.

This reliance on facts and circumstances to determine whether a particular benefit is de minimis leaves open the possibility that, hypothetically, two theater tickets worth $160 might be de minimis when given to someone in a one-off situation in which the boss can’t make the performance that night and announces to the office that, rather than have the tickets go unused, if someone can use them, they are welcome to them. And then, maybe, if several people express interest, they draw straws. Note that this is not to say that the tickets would be considered de minimis, only that on a facts-and-circumstances basis, the possibility exists.

Question: We are a new company. Our bookkeeper issued a Form W-2 to an independent contractor in error. No taxes were withheld, but the amount paid was reported in box 1 and filed with the Social Security Administration. How do we correct this?

Answer: As a first step, document that the worker is actually an independent contractor rather than an employee. IRS Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding, outlines the factors the IRS uses to determine a worker’s employment status. The SS-8 does not have to be submitted to the IRS but can be used to document the basis for treating the worker as an independent contractor rather than an employee.

To make the correction, prepare a Form W-2c showing the amount reported, the amount that should have been reported ($0) and the difference. The instructions for Form W-2c are fairly straightforward in this instance.

If no other dollar amounts were reported, do not make entries for any other dollar amounts. Do not make any changes to payer or payee information. The W-2c effectively cancels the original W-2. Submit the W-2c along with Form W-3c, Transmittal of Corrected Wage and Tax Statements, to the Social Security Administration. Do not send a copy of the original W-2 with the W-3c.

If the amounts paid to the worker were reported on Form 941, Employer’s Quarterly Federal Tax Return, but only as income tax wages on line 2, it is not necessary to file a Form 941-X, Adjusted Employer’s Quarterly Federal Tax Return or Claim for Refund, unless there are other corrections being made. However, if the amounts paid to the worker were included in the Social Security and Medicare wages reported on the Form 941, Social Security and Medicare taxes on those amounts would have been included in the employer’s tax liability even though the taxes were not withheld from the worker’s pay.

In that case, a 941-X will have to be filed to correct each quarter that amounts paid to this worker were included as Social Security and Medicare wages on Form 941. This will adjust the wages and taxes to the correct amounts and either make an adjustment or claim a refund for the overreported taxes.

The Form 941-X certifications in Part 2 will have to be checked. Line 3 is checked to certify that the W-2c was prepared to correct the information return. In addition, a box on either line 4 or line 5 will have to be checked. In this case, it may be possible to check box 4c, in the case of an adjustment, or 5d. in the case of a refund. because the overpaid taxes were not withheld from the worker’s pay and the taxes were not grossed up, which would cause the employee portion to be deemed to have been withheld.

If the payments to the worker amounted to at least $600, a Form 1099-NEC, or, for certain types of payments, a 1099-MISC, will have to be issued to the worker and filed with the IRS. At this point, there may be a penalty for late filing. If you receive a proposed penalty notice, you may be able to establish reasonable cause and avoid the late filing penalty. In response to the notice, explain what happened, that the company was trying to be in compliance, that a W-2 was issued in error, and mention that steps are being taken to provide assurance that the mistake will not happen again.

By Patrick Haggerty

Do you have a question for Payroll in Practice? Send it to phaggerty@prodigy.net.