Imputed income mainly refers to the monetary value assigned to fringe benefits. Fringe benefits encompass various additional perks or compensations that employers offer to their employees alongside their regular wages. Although one might assume that the cash equivalent of all benefits falls under imputed income but that’s not quite the case.
What is Imputed Income?
Imputed income refers to perks that employees receive that are not included in their compensation or earnings. These benefits, however, are nevertheless taxed as part of their income.
So, while the employee is not required to pay for these benefits, they are liable for paying the tax on their value.
This revenue is added to an employee’s gross compensation in order to withhold employment taxes. However, imputed income is not included in an employee’s net compensation. This is because the benefit was already provided in a non-monetary form.
What is Included in Imputed Income?
The following benefits fall under the category of imputed income:
- Care assistance provided to an employee’s dependents beyond a certain tax-free maximum.
- Adoption assistance exceeding a specific tax-free maximum.
- Employee education assistance surpassing a designated tax-free maximum.
- Provision of vehicles to employees for personal, non-business use, whether through ownership or lease.
- Gym memberships or other fitness-related perks.
- Non-deductible moving expenses.
- Group term life insurance coverage exceeding $50,000.
- Non-bonus cash and gift cards (note that bonus tax is separate from imputed income tax).
- Including an employee’s non-dependents in their employer-provided health insurance plan.
- Income earned by an employee from exercising no statutory stock options.
- Taxable income arising from the vesting or issuance of restricted stock to an employee.
- Personal use of an employer-provided cell phone.
- Transportation benefits exceeding employer and employee pre-tax deferrals under a Section 132 Plan.
- Meals and lodging expenses, except during tax-deductible business travel.
- Reimbursement for classes or development opportunities unrelated to the employee’s work.
- Travel expenses unrelated to business, such as covering an employee’s vacation flights after they attend a conference on behalf of the employer.
What is Excluded from Imputed Income
The following benefits are not considered imputed income:
- Reimbursements for expenses that the employee has already paid for out of pocket from the benefits listed above.
- Achievement awards of up to $1,600 for qualified plan awards.
- Adoption assistance up to a specified maximum amount.
- Commuter benefits up to a designated maximum amount.
- Dependent care assistance of up to $5,000 per year, provided it does not exceed the earned income of the employee or their spouse.
- The first $5,250 of annual education assistance received by an employee.
- Group term life insurance coverage of $50,000 or less.
- Retirement planning services.
- Qualified employee discounts.
- Health savings accounts (HSAs).
- Health, dental, and vision insurance.
- Employer-paid disability insurance premiums.
- On-premises fitness benefits, such as on-site gyms.
- Meals and lodging expenses during business travel.
- Small cash gifts under $100.
- Company parties.
- Occasional event tickets.
- Entertainment and team-building activities.
- Floral arrangements and fruit baskets.
- Branded company items, such as pens and apparel.
Examples of Imputed Income
The classification of certain fringe benefits as imputed income or exclusions depends on specific criteria. Here are examples of such benefits and when they are considered imputed income for taxation purposes:
Gym membership: If a company provides a gym membership to employees that is not located on the work property and available exclusively to employees, it should be reported as imputed income.
Achievement awards: Cash, gift cards, coupons, gift certificates, or similar items given as achievement awards are excluded from imputed income if their total value does not exceed $1,600. Amounts exceeding this limit should be reported as imputed income and are subject to taxation.
Educational assistance: For undergraduate programs, educational assistance of $5,250 or less per year can be excluded from imputed income. Graduate-level assistance in this amount can also be excluded for employees involved in teaching or professional research. Any assistance exceeding these limits or related to other graduate programs must be reported as imputed income.
Moving expense reimbursement: Unless reimbursed to active members of the United States Armed Forces permanently relocating due to military orders, moving expense reimbursements should always be reported as imputed income.
Adoption assistance: Adoption assistance is treated as imputed income for Social Security, Medicare, and federal unemployment withholdings but not for income tax withholdings. Up to $14,890 is excluded from taxable income in 2022 through the federal adoption tax credit.
How to report Imputed income for employees?
To report imputed income, employers should utilise IRS Form W-2. However, before completing this form, you must first identify all your company’s fringe benefits. You will eventually be required to calculate and pay taxes on these benefits. The steps for reporting your employees’ imputed income to the IRS are outlined below.
1. Identify your fringe benefits.
Let’s say you give an employee $4,000 in education assistance per year alongside a $500 annual gym membership. These are the only perks you provide besides basic health insurance. In this example, both these perks are fringe benefits, whereas the health insurance is not.
2. Identify which of your fringe benefits are taxable.
According to the above criteria, the employee education assistance you provide is non-taxable. That’s because it’s under the $5,250 minimum that triggers taxation. However, the $500 gym membership for which you’re paying is taxable. That means the gym membership payment is considered part of the employee’s personal income.
It should be noted that some taxable fringe benefits, such as personal use of a company car, may not have evident financial value. In those cases, you must assess the benefit’s fair market value.
3. Add the employee’s imputed income to IRS Form W-2.
On Form W-2, you must provide the employee’s imputed income as well as their gross salary. You will do so in boxes 12a–12d. On the reverse of copies C and 2, there are detailed instructions on how to accurately input imputed income to these boxes.
Imputed income affects the wages you report in boxes 1, 3, and 5. Box 1 covers the definition of “other compensation,” which includes imputed income. Because imputed income is subject to Social Security and Medicare taxes, you must include it in boxes 3 and 5 along with gross employee earnings.
4. Calculate imputed income taxes.
In most cases, imputed income is only liable to FICA taxes. The FICA tax rate for Social Security is 6.2% in 2022 and 1.45% for Medicare. That’s a total savings of 7.65%, or $45.94 on a $600 yearly gym membership.
Tip: Employers must identify the company’s taxable fringe benefits and their cash value, then calculate and pay FICA taxes on them, but payroll software can automate the process from start to finish.
5. Pay your imputed income taxes.
You can pay your imputed taxes on a quarterly, semi-annual, or annual basis. Some payroll services can execute and submit this payment on your behalf, saving you the trouble of completing it yourself. In other circumstances, you’ll have to make the payment yourself, but electronic payments are frequently available.
Is Imputed Income Good or Bad?
The categorization of imputed income as “good” or “bad” is subjective and dependent on individual perspectives and circumstances. Imputed income itself is a concept used for tax purposes to determine the taxable value of certain fringe benefits provided by employers to employees. It represents the monetary value assigned to those benefits.
From an employer’s perspective, imputed income can have both positive and negative aspects. On the positive side, offering fringe benefits can be a way to attract and retain employees, enhance employee satisfaction, and improve overall morale and productivity. However, imputed income can also increase the employer’s tax obligations and administrative burdens.
From an employee’s perspective, imputed income can be seen as positive if it includes valuable benefits such as health insurance, educational assistance, or retirement contributions. These benefits can enhance the employee’s financial well-being and quality of life. However, imputed income may also result in increased tax liability for the employee, as it is generally subject to income and payroll taxes.
Managing imputed income is a crucial aspect of payroll management for business owners. Staying informed and proactive about imputed income is essential. Additionally, it is important to communicate to employees that penalties may be imposed if their withholding is inadequate.
When it comes to tax-related matters, it is highly recommended to reach out to the IRS for clarification or assistance if there are uncertainties or questions. The IRS can provide valuable guidance and support in navigating imputed income and ensuring compliance with tax regulations.