Taxpayer is an employer of long-haul truck drivers in the transportation
industry. Taxpayer uses a monthly payroll period and compensates its drivers
for their services on a mileage basis. For 2006, Taxpayer pays its drivers
compensation of X cents-per-mile driven during each month. Taxpayer reports
the compensation on the drivers’ Forms W-2 and treats the compensation
as wages for Federal Insurance Contributions Act (FICA) tax, Federal Unemployment
Tax Act (FUTA) tax, and Federal income tax withholding purposes (collectively, “employment
taxes”).
Taxpayer also reimburses its drivers for meal and incidental expenses
(M&IE) paid or incurred while traveling away from home during the monthly
payroll period. Taxpayer reimburses its drivers for these expenses through
an allowance for each day the driver is away from home for Taxpayer’s
business. For 2006, the allowance is Y cents-per-mile driven. Taxpayer’s
industry commonly used this cents-per-mile driven method before December 12,
1989.
Taxpayer establishes the Y cents-per-mile rate based on its expectation
of the amount of daily M&IE that will be paid or incurred, and its expectation
of the average number of daily miles driven during the payroll period. Taxpayer
bases its expectations on reliable industry data and on Taxpayer’s own
data from recent years. Based on Taxpayer’s specific methodology and
data, Taxpayer’s projected allowance is reasonably calculated not to
exceed the drivers’ anticipated daily M&IE.
Taxpayer requires its drivers to provide logs to substantiate the time,
place, and business purpose of the travel away from home for each day (or
partial day). Taxpayer does not require its drivers to substantiate the amount
of actual M&IE. Instead, for its drivers’ substantiation of the
amount of M&IE paid or incurred by the drivers, Taxpayer relies on administrative
guidance published annually by the Internal Revenue Service under which the
amount of ordinary and necessary business expenses of an employee for M&IE
paid or incurred while traveling away from home is deemed substantiated when
the employer provides a per diem allowance to cover the
expenses. The guidance applicable for per diem allowances
paid to an employee on or after October 1, 2005, with respect to travel away
from home on or after October 1, 2005, is Rev. Proc. 2005-67, 2005-2 C.B.
729. For 2006 Taxpayer elects to treat $52 per day as the federal M&IE
rate for all localities of travel pursuant to section 4.04 of Rev. Proc. 2005-67.
Thus, for 2006, $52 or less per day of M&IE paid or incurred by a driver
while traveling away from home may be deemed substantiated. The allowances
paid by Taxpayer to many of its drivers for M&IE incurred on travel away
from home during the monthly payroll period routinely exceed $52 per day,
even when computed on a monthly basis pursuant to the periodic rule provided
in section 4.04 of Rev. Proc. 2005-67.
Taxpayer requires its drivers to return any amounts paid to them for
M&IE with respect to days they were not away from home on business travel.
Taxpayer does not require drivers to return the portion of the allowance
paid for days they were away from home on business travel that exceeds the
$52 per day that may be deemed substantiated.
Neither the policies nor actual practices of Taxpayer’s expense
allowance arrangement include any process for tracking the amount of the cents-per-mile
M&IE allowance paid to each driver on a per diem basis,
nor is there any mechanism in place to determine when the allowances exceed
the amount of expenses that may be deemed substantiated under Rev. Proc. 2005-67.
Taxpayer does not treat the excess allowances over $52 per day as wages for
withholding or employment tax purposes and does not report the excess allowances
as wages on the drivers’ Forms W-2.
Section 62(a)(2)(A) of the Internal Revenue Code provides that, for
purposes of determining adjusted gross income, an employee may deduct certain
business expenses paid by the employee in connection with the performance
of services as an employee of the employer under a reimbursement or other
expense allowance arrangement.
Section 62(c) provides that, for purposes of § 62(a)(2)(A),
an arrangement will not be treated as a reimbursement or other expense allowance
arrangement if (1) the arrangement does not require the employee to substantiate
the expenses covered by the arrangement to the person providing the reimbursement,
or (2) the arrangement provides the employee the right to retain any amount
in excess of the substantiated expenses covered under the arrangement.
Section 1.62-2(c)(1) of the Income Tax Regulations provides that a reimbursement
or other expense allowance arrangement satisfies the requirements of § 62(c)
if it meets the requirements of business connection, substantiation, and returning
amounts in excess of substantiated expenses. If an arrangement meets these
requirements, all amounts paid under the arrangement are treated as paid under
an accountable plan. See § 1.62-2(c)(2).
Amounts treated as paid under an accountable plan are excluded from the employee’s
gross income, are not reported as wages or other compensation on the employee’s
Form W-2, and are exempt from the withholding and payment of employment taxes.
See § 1.62-(2)(c)(4). Conversely, if the
arrangement fails any one of these requirements, amounts paid under the arrangement
are treated as paid under a nonaccountable plan and are included in the employee’s
gross income, must be reported as wages or other compensation on the employee’s
Form W-2, and are subject to withholding and payment of employment taxes.
See § 1.62-2(c)(3) and (5).
With regard to the business connection requirement, under § 1.62-2(d)(3)(ii)
an arrangement providing a per diem allowance that is
computed on a basis similar to that used in computing the employee’s
wages or other compensation (such as the number of hours worked, miles traveled,
or pieces produced) meets the business connection requirement only if, on
December 12, 1989, the per diem allowance was identified
by the payor either by making a separate payment or by specifically identifying
the amount of the per diem allowance, or a per
diem allowance computed on that basis was commonly used in the
industry in which the employee is employed.
With regard to the substantiation requirement, pursuant to Rev. Proc.
2005-67, the amount of M&IE that is deemed substantiated for each calendar
day is equal to the lesser of the per diem allowance
for that day or the amount computed at the federal M&IE rate. See section
3.01(3) of Rev. Proc. 2005-67. Under these rules, employees must continue
to actually substantiate the elements of time, place, and business purpose
relating to the travel expenses. See section 7.01 of
Rev. Proc. 2005-67. Section 4.04 of Rev. Proc. 2005-67 provides special rules
for the transportation industry under which $52 per day may be treated as
the federal M&IE rate and the amount deemed substantiated may be computed
on a periodic basis (but not less frequently than monthly) rather than daily.
For purposes of the return of excess requirement, § 1.62-2(f)(2)
permits the Commissioner to prescribe rules under which an arrangement that
provides a per diem allowance is treated as satisfying
the requirement of returning amounts in excess of expenses so long as the
allowance is reasonably calculated not to exceed the amount of the employee’s
expenses and the employee is required to return any portion that relates to
days of travel not substantiated. However, the portion of the allowance that
exceeds the amount deemed substantiated will be treated as paid under a nonaccountable
plan, must be reported as wages or other compensation, and is subject to withholding
and payment of employment taxes. See § 1.62-2(c)(5).
Section 1.62-2(h)(2)(i)(B)(1) provides that if
a payor pays a per diem allowance that meets the requirements
of § 1.62-2(c)(1), the portion, if any, of the allowance that relates
to days of travel substantiated in accordance with § 1.62-2(e) and
that exceeds the amount of the employee’s expenses deemed substantiated
for the travel pursuant to rules prescribed under § 274(d) and the
relevant regulations is treated as paid under a nonaccountable plan. Such
amount is wages subject to withholding and payment of employment taxes. See § 1.62-2(c)(5).
See also §§ 31.3121(a)-3(b)(1)(ii), 31.3306(b)-2(b)(1)(ii),
and 31.3401(a)-4(b)(1)(ii) of the Employment Tax Regulations.
Section 1.62-2(k) provides that if a payor’s reimbursement or
other expense allowance arrangement evidences a pattern of abuse of the rules
of § 62(c) and the regulations thereunder, all payments made under
the arrangement are treated as made under a nonaccountable plan. Thus, these
payments are included in the employee’s gross income, are reported as
wages or other compensation on the employee’s Form W-2, and are subject
to withholding and payment of employment taxes. See § 1.62-2(c)(5),
and (h)(2).
If an arrangement satisfies all three requirements of an accountable
plan, but an allowance is paid under the arrangement that exceeds the amount
that may be deemed substantiated, no actual substantiation is provided for
the M&IE covered by the allowance, and the excess allowance is not returned,
the excess allowance is treated as wages. See § 1.62-2(h)(2)(B)(1).
However, if the facts and circumstances evidence a pattern of abuse of the
rules of § 62(c) and the regulations thereunder, including the rule
to treat excess allowances as wages, all payments made under the arrangement
are treated as wages. See § 1.62-2(k).
Under the facts set forth above, the arrangement to reimburse Taxpayer’s
drivers for M&IE paid or incurred while traveling away from home meets
the business connection requirement. Taxpayer is permitted to compute a per
diem allowance based upon the number of miles driven during the
payroll period as that method was commonly used in Taxpayer’s industry
before December 12, 1989.
For purposes of satisfying the substantiation requirements of § 1.62-2(e)
for 2006, Taxpayer relies on the deemed substantiation rules provided in Rev.
Proc. 2005-67, including the special rules for the transportation industry
found in section 4.04 of Rev. Proc. 2005-67.
With respect to the return of excess requirement, the regulations and
Rev. Proc. 2005-67 permit Taxpayer to pay per diem allowances
for M&IE paid or incurred while traveling away from home that exceed the
deemed substantiated amount without requiring return of the excess. See § 1.62-2(f)(2)
and section 7.02 of Rev. Proc. 2005-67. Under these rules, however, Taxpayer
must take steps to ensure that the excess allowances are tracked and treated
as wages subject to withholding and payment of employment taxes and reporting
on Forms W-2.
In implementing its expense allowance arrangement for 2006, Taxpayer
has not included any mechanism or process that tracks allowances and permits
it to determine when the allowances paid to its drivers, computed on a per
diem basis, exceed the $52 per day that may be deemed substantiated.
Taxpayer does not receive actual substantiation for the M&IE covered
by the allowances. Taxpayer neither requires repayment of the excess allowances
nor treats the excess allowances as wages for purposes of withholding and
payment of employment taxes and reporting on Forms W-2.
As operated in 2006, Taxpayer’s expense allowance arrangement
routinely results in payment of excess allowances that are not repaid or treated
as wages. Taxpayer’s failure to track the excess allowances and its
routine payment of excess allowances that are not repaid or treated as wages
evidence a pattern of abuse under § 1.62-2(k). Although the excess
allowances that have not been repaid or treated as wages may be small in comparison
to the total allowance paid to an individual driver, to the amount that may
be deemed substantiated for any given period of travel away from home, and
to the aggregate allowances paid to all of Taxpayer’s drivers, Taxpayer’s
arrangement is neither structured nor operated to meet the requirements of
the accountable plan regulations for per diem allowance
arrangements. As a result, Taxpayer has more than a failure to account for
a particular driver’s excess allowance or excess allowances paid to
drivers for a particular period of travel. Taxpayer’s arrangement evidences
a pattern of abuse of the accountable plan rules.
Accordingly, even if Taxpayer’s expense allowance arrangement
otherwise meets the business connection, substantiation, and return of excess
requirements of an accountable plan for the allowances paid to Taxpayer’s
drivers up to the amount that may be deemed substantiated, all payments made
under Taxpayer’s expense allowance arrangement are treated as paid under
a nonaccountable plan. Taxpayer must include all amounts paid under the arrangement
to reimburse drivers’ M&IE, not just the excess allowances, in the
drivers’ wages on Forms W-2 and must treat all these amounts as wages
for the withholding and payment of employment taxes.
