Tax USA Assignment 3

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Employee Expenses and Deferred Compensation

Chapter 9

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EMPLOYEE EXPENSES AND DEFERRED COMPENSATION (1 of 2)

Classification and limitations of employee expenses

Travel expenses

Transportation expenses

Entertainment expenses

Reimbursed employee business expenses

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EMPLOYEE EXPENSES AND DEFERRED COMPENSATION (2 of 2)

Moving expenses

Education expenses

Office in home expenses

Deferred compensation

Tax planning considerations

Compliance and procedural considerations

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Classification & Limitations of Employee Expenses (1 of 3)

Employee vs. self-employed factors

Behavioral control

Financial control

Relationship of parties

If employee

Employer pays ½ FICA and Medicare

If self-employed

Taxpayer pays all FICA and Medicare

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Limitations on unreimbursed employee expenses

2% of AGI floor applies to

Unreimbursed employee business expenses

Investment expenses other than interest

Tax advice and return preparation fees, and other deductions

Classification & Limitations of Employee Expenses (2 of 3)

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Limitations (cont’d)

2% misc itemized deduction limit

No tax benefit if total misc. itemized deductions ≤ 2% of AGI

Standard deduction limit

No benefit if total allowable itemized deductions do not exceed standard deduction

Classification & Limitations of Employee Expenses (3 of 3)

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Travel Expenses

Deductibility of travel expenses

Definition of travel expenses

General qualification requirements

Business vs. pleasure

Foreign travel

Add’l limits on travel expenses

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Deductibility of Travel Expenses

Factors

Nature of expenditure

Deductible for AGI if taxpayers engaged in ToB or production of rents or royalties

Whether or not employee reimbursed

Deduction for AGI if reimbursed

2% misc. deduction if not reimbursed

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Definition of Travel Expenses

Expenditures include transportation, meals, & lodging

Reduced if lavish or extravagant

Requirements

Must be related to a ToB, or employee status

Incurred while away from tax home

Requires overnight stay

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General Qualification Requirements (1 of 2)

Away-from-tax-home requirement

Tax home is work location

Assignment must be temporary

Assignment not temporary if

Assignment indefinite OR

Expected to last > 12 months

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General Qualification Requirements (2 of 2)

Overnight requirement

Must be reasonable for taxpayer to be away overnight

Short rest stops on long day-trip not considered overnight

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Business vs. Pleasure

Travel to and from destination

If trip primarily personal, no deduction

If trip primarily business, all travel to and from destination deductible

Other travel-related expenses

Allocated to business and personal activities

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Foreign Travel

Generally disallowed

Allowed only if taxpayer shows activity directly related to business, AND

Reasonable for meeting to be held outside North America

Complex allocation for allowable expenses

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Additional Limitations on Travel Expenses

Travel expenses disallowed if actual travel is for education

E.g., French student traveling through France

Luxury water travel exp. limited

Travel to conventions, seminars not deductible if activity for production of income

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Transportation Expenses

Definition and classification

Treatment of automobile expenses

Reimbursement of automobile expenses

Excess expenses over reimbursement deductible as 2% misc itemized deductions

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Definition and Classification (1 of 2)

Commuting costs generally nondeductible personal expenses

Commuting costs between multiple jobs for same taxpayer deductible

Transportation costs from employee’s regular work site to temporary one deductible

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Definition and Classification (2 of 2)

Commuting costs between home and temporary work site deductible if taxpayer has regular place of business

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Treatment of Automobile Expenses

Standard mileage rate $0.565/mile

Not available if use ≥ 2 vehicles

Does not include parking and tolls

Actual expenses

Includes gas, oil, maintenance and repairs, insurance, and depreciation

Based on ratio [Bus. miles]/[Total miles]

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Entertainment Expenses

50% disallowance for meal and entertainment expenses

Classification of expenses

Business meals

Ent. facilities and club dues

Business gifts

Limits on entertainment tickets

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Classification of Expenses

Criteria for deduction

Directly related expense

Goodwill is NOT a direct benefit

Must be in a clear business setting

Associated with expense

Must establish clear business purpose

Activity must directly precede or follow bona fide business discussion

Proper substantiation required

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Business Meals

Business meals must meet “directly related to” or “associated with” tests

Cannot be lavish or extravagant for circumstances

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Entertainment Facilities and Club Dues

No deduction permitted for costs related to maintenance of entertainment, amusement, or recreation facilities

No deduction for club dues

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Business Gifts

General annual ceiling of $25/donee

Exceptions include

Employee achievement awards < $400

Gift from employer to employee’s survivor

Not subject to 50% reduction for meals and entertainment

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Limitations on Entertainment Tickets

50% limitation applies to face value of ticket

Further restrictions on skyboxes

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Reimbursed Employee Business Expenses (1 of 2)

Substantiation

Employee must make adequate accounting of expenses to employer

Employee required to return excess reimbursement

Accountable Plan

Reimbursements and ded. not reported by employee if no excess deductions

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Reimbursed Employee Business Expenses (2 of 2)

Non-Accountable Plan

Reimbursement taxable

Deductions miscellaneous subject to 2% of AGI floor

Employee subject to 50% M&E limitation

Meals & Lodging per diem allowance

IRS has special tables

Substantiation less burdensome

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Moving Expenses Distance and Duration Requirements

For AGI ded. if requirements met

New job at least 50 miles farther from taxpayer’s old residence

New employee is employed full-time at new location for 39 weeks out of year following the move

78 weeks for self-employed individuals

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Moving Expenses Definition of Moving Expenses

Qualified expenses

Cost of moving household good and personal effects from old to new home

Includes storage if < 30 days

Cost of traveling from old to new home

Includes lodging, but not meals

$0.24/mile per car driven

Employer reimbursement not taxable

Excess is For AGI deduction

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Education Expenses (1 of 3)

Classification of education expenses

See Table 3

Deduction for higher ed. expenses

$4K for AGI deduction

$2K if AGI $65K-$80K ($130K-$160K MFJ)

No deduction if AGI > $80K ($160K MFJ)

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Education Expenses (2 of 3)

General deduction requirements

Maintain or improve skills required for employment

Meet requirements imposed by law or by employer for retention of employment, rank, or compensation rate

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Education Expenses (3 of 3)

Nondeductible if

Necessary to meet minimum educational requirements for qualifications in taxpayer’s employment

OR qualifies taxpayer for new trade or business

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Office in Home Expenses General Requirements (1 of 2)

Office used on exclusive and regular basis and ONE of following

Office used as principal place of business for any ToB

Includes doing administrative work if no other fixed location available

Place for meeting clients in normal course of business

Located in separate structure

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An employee must also prove that the home office is for the convenience of the employer

Not just appropriate or helpful for the employee

Office in Home Expenses General Requirements (2 of 2)

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Categories of expenses

Expenses directly related to office

Expenses indirectly related to office

Expenses related to whole home

Prorate based on square footage or other method

Total expenses cannot create loss

Office in Home Expenses Deduction and Limitations (1 of 3)

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Order of expense deductions

Expenses not related to home office

Expenses directly related to home office

Pro-rata portion of indirect expenses

E.g., mortgage, interest, utilities

Disallowed expenses carried forward to future year

Office in Home Expenses Deduction and Limitations (2 of 3)

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Optional safe harbor to determine amount of deductible home office expenses per Rev. Proc. 2013-13

$5 multiplied by [sq. ft. of space for qualified use]

Limited to 300 sq. ft.

$1,500 maximum deduction

Office in Home Expenses Deduction and Limitations (3 of 3)

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Deferred Compensation (1 of 3)

Qualified pension and profit-sharing plans

Qualification requirements for a qualified plan

Tax treatment to employees and employers

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Deferred Compensation (2 of 3)

Nonqualified plans

Employee stock options

Plans for self-employed individuals

Traditional Individual Retirement Account (IRA)

Roth IRA

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Deferred Compensation (3 of 3)

Coverdell education savings account

Health savings accounts

Simplified employee pensions

Simple retirement plans

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Qualified Pension and Profit-Sharing Plans (1 of 2)

Pension plans

Defined benefit

Defined contribution

Profit-sharing plans

Include 401(k) plans

Roth-type plans

Roth 401(k) similar to Roth IRA

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Qualified Pension and Profit-Sharing Plans (2 of 2)

Stock bonus plans

DC plan where investments invested in company stock

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Qualification Requirements for a Qualified Plan

Must be for employees’ exclusive benefit

Does not discriminate in favor of highly compensated employees

>5% owners or comp >$115K

Contributions proportionate to comp

Coverage requirements

Vesting requirement

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Tax Treatment to Employees and Employers (1 of 2)

Employer contributions immediately deductible

Employee contributions may come from pre-tax or after-tax earnings

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Tax Treatment to Employees and Employers (2 of 2)

Benefits generally taxed to employees if contributions from pre-tax earnings

Use exclusion ratio if contributions from after-tax earnings

Distributions from a Roth-type plan are not taxable

No deduction for the contributions

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Nonqualified Plans

Often used to provide incentives or supplementary retirement to execs

No nondiscrimination or vesting rules

Employer does not receive deduction until benefits available to employee

Unfunded compensation plans

Restricted property plans

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Employee Stock Options Incentive Stock Options (ISOs)

No tax to employee on exercise date

LTCG treatment when employee sells stock

(amount realized – exercise price)

Employer receives no deduction

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Employee Stock Options Nonqualified Stock Options (NQSOs) (1 of 2)

Employee recognizes ordinary inc.

FMV – Exercise price

Traded on established exchange

Compensation on grant date

Options w/o readily ascertainable FMV

Compensation on exercise date

Employer receives deduction when employee recognizes income

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Employee Stock Options Nonqualified Stock Options (NQSOs) (2 of 2)

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Plans for Self-Employed Individuals

H.R. 10 plans

Also called Keogh plans

Generally same contribution and benefit limits as other qualified plans

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Traditional IRA (1 of 2)

Fully deductible contributions

Lesser of $5.5K or earned income

$6.5K if at least age 50

Available only for following taxpayers

Non-active participants in a qualified employer retirement plan

Active participants w/ AGI ≤ $59K ( ≤ $95K MFJ)

Spouse active participant w/ AGI ≤ $178K

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Traditional IRA (2 of 2)

Active participant AGI phase-out limit

Single $59K - $69K; MFJ $95K - $105K; MFJ with active spouse $178K - $188K

Deduction for non-working spouse

$5.5K ($6.6K if ≥ age 50)

All distributions taxable

Exception if some nondeductible contributions are made

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Roth IRA (1 of 2)

Nondeductible

Max contribution $5.5K

If qualify for both Traditional and Roth maximum contribution for both is $5.5K

Max contribution $6.5K if ≥ age 50

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Roth IRA (2 of 2)

Contribution phase-out AGI limitations

$112K - $127K for Single

$178K - $ 188K for MFJ

Qualified distributions nontaxable

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Coverdell Education Savings Account (1 of 2)

Nondeductible contribution

Maximum contribution $2K/year until beneficiary reaches age of 18

Elementary, secondary, & higher education expenses

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Coverdell Education Savings Account (2 of 2)

Distributions excluded from gross income if ≤ qualified education expenses

May be used in same year as Hope & Lifetime learning credits

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Health Savings Accounts

Purpose to enable eligible individuals to accumulate funds on tax-free basis to pay qualified medical expenses currently or in the future

No employer-provided insurance

Must use high-deductible policy

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Simplified Employee Pensions (SEP)

Employer benefits from reduced administrative complexity

Employer contributions deductible in year of contribution

Tax on distributions subject to RIA rules

Available to self-employed persons

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Simple Retirement Plans

Savings incentive match plan for employees

For employers with < 100 employees who received at least $5K in comp

Employer matches employee contributions

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Tax Planning Considerations (1 of 2)

Moving expenses requirements

Employee must secure full-time work before incurring moving expenses, OR

Self-employeds must carry on ToB prior to incurring moving expenses

Excess reimbursements are taxable compensation

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Tax Planning Considerations (2 of 2)

Rollover from Traditional to Roth IRA

Considerations include marginal tax rate, age of taxpayer and payment of taxes from rollover from post-tax funds

Rollover included in gross income

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Travel and entertainment expenses may be disallowed if taxpayer does not maintain adequate records

Employee business expenses reported on Form 2106

Moving expenses reported on Form 3903

Compliance & Procedural Considerations (1 of 2)

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Home office expenses reported on Form 8829

Reports for qualified retirement plans required to be filed with IRS and, sometimes, with Dept. of Labor

Compliance & Procedural Considerations (2 of 2)

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END Chapter 9

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