The Tax Cuts and Jobs Act (TCJA) created a new general business tax credit for certain businesses that grant their qualifying employees paid family and medical leave in 2018 and 2019. The IRS has now released Notice 2018-71 which addresses several related issues, including eligibility, types of leave covered and credit amount calculation. Notably, the guidance allows employers currently without a paid family and medical leave policy to adopt a retroactive policy before year end and claim the credit for 2018.
The IRS also has clarified the TCJA’s suspension of the moving expenses deduction that may affect employers and employees. Specifically, it explains the treatment of moving expenses incurred in 2017 but reimbursed in 2018.
In addition to the recent TCJA guidance, it is also important for businesses to be reminded of the various changes regarding the tax treatment of employee fringe benefits.
Credit eligibility requirements
IRS Notice 2018-71 explains that an eligible employer must have a written policy that:
- Covers all qualifying employees.
- Provides at least two weeks of annual paid family and medical leave for each full-time qualifying employee, and at least a proportionate amount of leave for each part-time qualifying employee (qualifying employees who customarily work fewer than 30 hours per week).
- Provides leave pay at a rate of at least 50% of the qualifying employee’s wages.
- Includes language providing “noninterference” protections if the employer has any qualifying employees who aren’t covered by the federal Family and Medical Leave Act (FMLA). (For example, they may not work 1,250 hours per year.)
Noninterference language generally must ensure that the employer won’t 1) interfere with the exercise of any right provided by the policy, or 2) fire or otherwise discriminate against individuals who oppose any practice prohibited by the policy. The notice also makes clear that an employer that isn’t subject to the FMLA — because none of its employees is covered by the law — still can be eligible for the credit if it includes the noninterference language.
An employer can set up the policy in a single document or multiple documents. The written policy also may be included in the same document that governs the employer’s other leave policies.
The written policy must be “in place” before the leave is taken to qualify for the credit. A policy is considered in place on the latter of its adoption date or effective date. But the guidance provides a transition rule for 2018. The IRS will deem a written leave policy or amendment to be in place as of the effective date, rather than a subsequent adoption date, as long as it’s adopted on or before December 31, 2018, and the employer applies it retroactively for the entire period the policy or amendment covers.
For example, let’s say an employer adopts a written policy on October 15, 2018, retroactive to January 1, 2018. If the employer retroactively pays an employee who took unpaid family and medical leave in February at the appropriate rate, it can claim the credit for that pay.
An employer isn’t required to provide notice to employees that it has a written policy providing paid family and medical leave in place. If it does give notice, though, it must notify all qualifying employees (for example, by email, employee handbook or workplace posting).
Types of covered leave
The credit generally is available only if the leave is specifically designated for an FMLA purpose and can’t be used for any other reason. What if a policy permits leave that would otherwise be for an FMLA purpose, but is taken to care for a non-FMLA-qualifying individual (for example, a grandchild with a serious health condition)? The IRS will view it as leave specifically designated for an FMLA purpose, but the employer can’t claim the credit for any leave taken to care for anyone other than FMLA-qualifying individuals, meaning an employee’s spouse, child or parent.
Paid leave provided under the employer’s short-term disability program can be characterized as family and medical leave if it otherwise meets the requirements to be such leave. It can qualify as covered leave whether self-insured or provided through a short-term disability insurance policy.
Requirements for the leave
The leave must be available to all qualifying employees who have worked at the company for at least one year, and whose compensation for the preceding year doesn’t exceed 60% of the “amount applicable” for that year. For 2017, the amount applicable is $120,000, so a qualifying employee in 2018 may have earned no more than $72,000 in 2017. For a part-time qualifying employee, the paid leave ratio must be at least equal to the ratio of the employee’s expected weekly hours to the expected weekly hours of a non-part-time qualifying employee.
Until the IRS provides further guidance, employers may use any reasonable method to determine whether an employee has been employed for one year or more. Notice 2018-71 specifically declares, though, that requiring an employee to work 12 consecutive months or a minimum number of hours per year wouldn’t be considered reasonable.
The notice also explains how to determine an employee’s normal wages to ensure the employee is, as required, paid at least 50% of those wages while on leave. Overtime (other than regularly scheduled overtime) and discretionary bonuses aren’t included in wages. Any leave paid by a state or local government, or required by state or local law, doesn’t count toward the amount of paid family and medical leave provided by the employer, the rate of pay or, in turn, the credit. Pending further IRS guidance, employers with employees who are paid on a basis other than a salary or hourly rate must use the Fair Labor Standards Act rules for determining the regular pay rate to calculate normal wages.
Employers aren’t required to use the same pay rate or leave period for every qualifying employee or FMLA purpose. For example, an employer could provide six weeks of leave at 100% pay for childbirth or adoption, or to care for the child, but only two weeks at 75% pay for all other purposes. Similarly, an employer could provide two weeks of leave to every qualifying employee, and an extra two weeks for qualifying employees with at least 10 years of service. The policy cannot, however, exclude any class of qualifying employees, such as unionized employees, from paid leave.
The amount of the credit begins at 12.5% of wages paid for up to 12 weeks per tax year. The percentage rises incrementally as the rate of leave payment exceeds 50% of the normal wages. A maximum credit of 25% is applied when full wages are paid for the leave. The term “wages” generally encompasses all remuneration for employment.
Be aware that wages don’t include any amounts taken into account for other general business credits. It does, however, include wages paid by a third-party payer (for example, an insurance company or professional employer organization). It also includes wages paid through an employer’s short-term disability program for leave taken into account for the leave credit. And employers that claim the leave credit must reduce their wage/salary deduction by the credit amount.
The credit for any specific employee is limited to the employee’s normal hourly wage rate multiplied by the number of hours of leave taken. If an employee isn’t paid an hourly wage, an employer can, pending additional IRS guidance, use any reasonable method to convert the normal wages to an hourly rate.
The moving expense guidance
A few days before it issued its guidance on the family and medical leave credit, the IRS published an advance version of its impending guidance on the tax treatment of employer reimbursements of “qualified moving expenses.” The TCJA suspended the exclusion of such reimbursements from an employee’s gross income, as well as the business deduction for employer-paid, qualified moving expenses for employment tax periods from 2018 to 2025.
Some employers may reimburse their employees in 2018 for expenses related to a work-related move that actually occurred in 2017, raising questions about the applicability of the exclusion. According to Notice 2018-75, these expenses are indeed tax-free if 1) they would have been deductible by the employee had the employee directly paid the expenses before January 1, 2018, and 2) the employee didn’t deduct the expenses in 2017. The guidance explains how employers that have already withheld federal employment taxes on the reimbursement of a 2017 move can seek an adjustment or refund for overpayment.
TCJA curbs achievement award deductions
The TCJA also limits the deductibility of achievement awards provided to employees.
In general, the value of an “employee achievement award” is not included in the recipient employee’s gross income if the cost of the award does not exceed the amount allowable as a deduction to the employer. To qualify for this exclusion, the award must be tangible personal property given in recognition of the employee’s service or safety achievement at a ceremony that is a meaningful presentation.
The TCJA clarified and codified prior proposed regulations that stated “awards” for this purpose do not include cash, cash equivalents (such as gift cards/certificates/coupons), vacations, meals, or tickets to theater/sporting events. Those types of awards are considered disguised compensation, and are taxable to the employee (therefore, deductible to the employer as compensation).
Legislation repeals transportation benefits deduction
Another provision involves the deductibility of employer-provided employee transportation benefits. Previously, businesses could deduct expenses paid for employees’ mass transit passes, parking allowances and van pooling, up to monthly limits, and employees could exclude that amount from income.
Starting with tax years after December 31, 2017, the deduction for employees’ qualified mass transit and parking expenses paid by employers has been repealed. There’s an exception if the transportation is necessary for an employee’s safety — for example, if an employee must work late at night and takes a taxi or Uber home.
Note that the cost of these transportation benefits is still tax-free to employees. Or employees can choose to pay their own mass transit or parking expenses with pretax income using an employer-sponsored salary reduction program.
Law limits meal and entertainment deductions
Another important change under TCJA deals with the deductibility of business-related meals and entertainment. Pre-TCJA, businesses could generally deduct 50% of these costs, or 100% of the cost of meals provided to employees on or near the employer’s premises for the employer’s convenience.
The TCJA has repealed the deduction for all business-related entertainment expenses for tax years starting after December 31, 2017. Tickets to sporting events, concerts, or shows; rounds of golf; and any other entertainment, amusement or recreation expenses are no longer deductible. The days of fostering relationships with key employees, vendors, and other business contacts during entertainment events—and receiving a tax benefit—are gone.
Expenses for employees’ business-related meals (including those incurred while employees are traveling for business) will continue to be 50% deductible.
However, the deduction for meals provided to employees on or near the business’s premises is now reduced from 100% to 50%. This includes not only the doughnuts or pizza you might pick up or have delivered for employees, but also meals that employees eat in an on-premises cafeteria. The cost of these meals can still be excluded from employees’ taxable income.
The IRS’s guidance on the family and medical leave credit is published in a question-and-answer format, and the contents will be incorporated into proposed regulations. The IRS will accept comments on the regulations through November 23, 2018, but the guidance took effect on September 24, 2018. Contact us if you have questions on how the changes regarding employee benefits will affect your business.