As an employer, you know that benefits and compensation can come in various forms—and in today’s tight labor market, offering a variety of different benefits is essential to recruiting and retaining employees.
However, it’s important to keep in mind that when you give employees fringe benefits like a gift card or access to a company car, your employees need to pay taxes on the value of these benefits, which is known as imputed income.
If you offer or plan to offer your employees various fringe benefits, you need to know which benefits are exempt and how to properly report the imputed income on a W-2 form. In this article, we’ll go over everything you need to know about imputed income.
Learn more about the advantages of fringe benefits in our complete guide
What is imputed income?
Imputed income is the value of non-cash compensation given to employees—outside their salary or wages—in the form of fringe benefits. Because you provided the fringe benefit to your employees, imputed earnings must be treated as regular income and be reported and taxed as such, unless they are exempt.
For instance, an employee who earns a $100 gift card for completing a project ahead of schedule needs to report that amount as imputed income.
Fringe benefits are a great way to compensate your employees beyond their regular wages. In fact, voluntary benefits are becoming an increasingly essential part of employers’ overall benefits packages as the demand for flexible and personalized benefits grows.
In a survey1 conducted by McKinsey & Company 78% percent of employers reported they offer at least one voluntary benefit. Even though benefits can be considered taxable imputed income, offering them is an excellent resource for you to support your employees’ wellbeing, enrich your compensation plan, and attract and retain talent.
How does imputed income affect your employees’ taxes?
Imputed income must be added to your employees’ gross income unless it’s considered exempt. The amount shouldn’t be included in your employees’ net income because the employees received the benefit in another form.
However, you need to include it in your employees’ W-2 Form because the amount qualifies for income taxes—but we’ll go into more detail on that later.
Generally, imputed income isn’t subject to federal income tax withholding, but it’s subject to Social Security taxes, federal unemployment taxes (FUTA), and Medicare taxes. Your employees can withhold a specific amount of tax to account for the imputed income throughout the year, or pay the taxes due when filing their annual tax return.
In either case, you should let your employees know beforehand the tax penalties that may apply if they don’t withhold enough federal taxes on their imputed income.
Examples of imputed income
It’s important to know what constitutes as imputed income to do tax reporting for your organization correctly. Many fringe benefits may be taxed depending on the value received by the employee, whereas other benefits are taxed regardless of the value or monetary amount received.
Some examples of fringe benefits that are taxed as imputed income include:
- Health insurance for non-dependents, such as a domestic partner
- Adoption assistance exceeding the annually adjusted amount
- Tuition reduction and educational assistance in excess of $5,250
- Group term life insurance in excess of $50,000
- Personal use of a company car
- Gym memberships and fitness incentives
- Dependent care assistance coverage in excess of $5,000
- Moving expense reimbursements
- Employee discounts
- Occasional employer gifts, including cash and gift cards
The value of fringe benefits, like those listed above, that your employees receive can also affect them outside of taxes. For example, imputed income can impact an employee’s child support payment amounts.
That is because, depending on the state, imputed income gives the judge a more accurate view of a non-custodial parent’s actual income, which helps to determine a more accurate child support amount they should pay.
Examples of exclusions to imputed income
Some benefits are excluded from being counted as imputed income. These are called “de minimis benefits,” and they are benefits that hold so little value that the IRS finds it impractical or unnecessary to keep a record of them.
These exclusions include:
- Controlled, occasional employee use of photocopy machine
- Occasional office snacks
- Occasional tickets for entertainment events
- Holiday gifts
- Occasional meal money or transportation expense for working overtime
- Group-term life insurance for employee spouse or dependent with a face value no more than $2,000
- Flowers, fruit, books, etc., provided under special circumstances
- Personal use of a cell phone provided by an employer primarily for business purposes
The IRS states that any fringe benefit with a value less than $100 is considered a de minimis benefit. A vital aspect of a de minimis benefit is that it’s occasional or unusual in frequency, so considering frequency in addition to value is crucial to understanding if your benefit fits the de minimis criteria.
In most cases, excluded de minimis benefits aren't subject to federal income tax withholding, Social Security, Medicare, FUTA, or Railroad Retirement Tax Act (RRTA) taxes. They also don’t need to be reported on your employees’ W-2s.
How is imputed income reported for my employees?
Except for excluded benefits, like those listed above, fringe benefits are subject to employment taxes, so you must report them on each employee’s W-2 form at the end of the year. To do this, you must accurately track the value of each employee’s imputed income throughout the year, the same as regular wages.
To correctly report fringe benefits, you need to determine the value of the benefits each employee has received.
While this may be simple for some benefits with assigned values, such as group-term life insurance and educational assistance, other fringe benefits, like personal use of a company car, may require you to determine the fair market value.
You can report imputed income on Form W-2 for each applicable employee in Box 12 using Code C. Also, you should include the amount for imputed income in Boxes 1, 3, and 5.
You can choose to report your imputed income value at any frequency as long as it’s not less than annually.
Period reporting options include:
- Per pay period
- Quarterly
- Semi-annually
- Annually
You can change your reporting frequency as much as you like. However, you must report your benefits no later than December 31 of the year in which the benefits were received.
How PeopleKeep can help
If you’re new to providing fringe benefits to your employees, then you don’t have to go at it alone. PeopleKeep’s employee stipend administration software allows employers of all sizes to reimburse their employees for the fringe benefits of their choosing.
With PeopleKeep, you have complete control over your costs by choosing allowance amounts that fit within your budget. And best of all, most customers only need about 5 minutes per month to administer their benefit making our software completely hassle-free.
Conclusion
Imputed income is something all employers should understand take control of. Whether you run your payroll manually or have a payroll service provider, you need to track imputed income, report fringe benefits, and include the tax totals on your employees’ W-2s.
Because imputed income can be tricky at first, it’s also a good idea for you to inform your employees of any penalties that may apply if they don’t have sufficient tax withholdings. As with anything tax-related, it’s a good idea to contact your tax advisor or the IRS if you have questions.
