Is Mileage Reimbursement Considered Income?
Is your mileage reimbursement taxable income? Uncover the IRS rules and conditions that determine its tax treatment for employees.
Mileage reimbursement often raises questions about its tax implications. When employers provide funds to cover the costs incurred by employees using their personal vehicles for business, it is common to wonder if these payments are considered taxable income. The answer is not always straightforward and depends significantly on specific circumstances and Internal Revenue Service (IRS) regulations. This article explores the rules determining when mileage reimbursement is, or is not, subject to taxation.
Understanding Mileage Reimbursement
Employers frequently reimburse employees for expenses incurred while performing job-related duties, and mileage reimbursement is a common example. This practice helps businesses cover costs when employees use personal vehicles for work-related travel. These expenses can include fuel, maintenance, insurance, and vehicle depreciation.
Reimbursement methods often involve tracking actual expenses or using a standard rate. The IRS annually sets a standard mileage rate, which simplifies the calculation process for both employers and employees. This rate is designed to cover the average costs of operating a vehicle for business purposes.
The Accountable Plan Standard
For mileage reimbursement to avoid being taxable income, it must be provided under an “accountable plan” as defined by the IRS. An accountable plan adheres to strict requirements outlined in Internal Revenue Code Section 62 and Treasury Regulations Section 1.62-2. If these conditions are met, the reimbursement is generally excluded from the employee’s gross income and is not subject to income tax withholding or payroll taxes.
The first requirement is a “business connection,” meaning the expenses must be directly related to the employer’s business activities. This ensures that personal expenses are not reimbursed tax-free. Second, the employee must provide “adequate accounting” for the expenses to the employer within a reasonable period. This typically involves submitting detailed records, such as mileage logs noting dates, destinations, business purposes, and odometer readings.
The third criterion mandates the “return of excess reimbursement” within a reasonable period. If an employee receives an advance or reimbursement that exceeds their substantiated business expenses, any surplus must be returned to the employer. Generally, the IRS considers a reasonable period to be within 60 days for substantiation and 120 days for returning excess amounts.
When Reimbursement Becomes Taxable
If an employer’s reimbursement arrangement fails to meet any of the three criteria for an accountable plan, it is classified as a “non-accountable plan.” Under a non-accountable plan, all reimbursements or allowances provided to the employee are treated as taxable wages. These amounts become subject to income tax withholding and Federal Insurance Contributions Act (FICA) taxes, including Social Security and Medicare taxes.
Examples of scenarios leading to a non-accountable plan include flat car allowances paid regardless of actual mileage or expense substantiation. Additionally, if an employee fails to adequately account for expenses or does not return excess reimbursement within the specified reasonable period, the entire reimbursement may become taxable. Reimbursements for non-business or personal commuting expenses also fall under non-accountable plans, making them taxable.
Tax Reporting and Record Keeping
Reimbursements made under an accountable plan are typically not reported as wages on an employee’s Form W-2. These amounts are generally excluded from Box 1 (Wages, tips, other compensation), Box 3 (Social Security wages), and Box 5 (Medicare wages) of the W-2. This signifies their non-taxable status.
Conversely, reimbursements received under a non-accountable plan are included in the employee’s taxable wages. These amounts will appear in Box 1 of Form W-2 and are often also included in Box 3 and Box 5, subject to FICA taxes. If a reimbursement rate exceeds the IRS standard mileage rate, the excess portion is also considered taxable income and reported in Box 1.
Employees bear the responsibility of maintaining meticulous records for all business mileage, irrespective of their employer’s reimbursement plan. Essential details for these records include the date of travel, the destination, the specific business purpose, and starting and ending odometer readings or total miles driven for each trip. Accurate record-keeping is crucial for substantiating reimbursements to the employer and for addressing any potential inquiries from the IRS regarding the tax treatment of these payments.