Most business owners know what a fringe benefit is, but some may not realize the differences in taxability when these benefits are provided to employees, partners or S corporation shareholders.
Fringe benefits, which are essentially a form of pay for the performance of services, are taxable and must be included in the recipient’s pay as income unless specifically excluded by law. There is a long list of fringe benefits that are exempt from income if they are provided to employees; however, these same benefits become taxable if provided to partners or 2% S corporation shareholders.
A 2% S corporation shareholder is someone who directly or indirectly owns at any time during the year more than 2% of the corporation’s stock or stock with more than 2% of the voting power. A 2% shareholder is treated the same as a partner for most benefits. A less than 2% shareholder is considered an employee for fringe benefit purposes.
A partner is considered by the IRS to be self-employed and is not considered an employee for fringe benefits unless specifically included in the definition of employee for a particular benefit.
Taxable Fringe Benefits for Partners and 2% S Corp Shareholders:
|Fringe Benefit||Partners||2% S Corporation Shareholder|
|Accident and health benefits||Taxable as guaranteed payments||Reported as federal wages subject to federal income tax withholding on W-2 (not subject to social security, Medicare or FUTA taxes)|
|Group term life insurance coverage up to $50,000||Taxable as guaranteed payments||Reported in boxes 1, 3 and 5 of W-2, must pay social security and Medicare taxes, not required to withhold federal income tax or pay FUTA|
|Moving expenses||Taxable as guaranteed payments||Reported as wages to shareholder|
|Health Savings Account contributions||Taxable as guaranteed payments||Treated as distributions to the 2% shareholder|
|Cafeteria plans||Partners may not participate||2% shareholders may not participate|
Tax-Free Fringe Benefits for Partners and 2% S Corp Shareholders:
- Qualified educational assistance programs
- Qualified dependent care assistance programs
- Working condition fringe benefits, such as meals provided for the convenience of the company
- On-premises athletic facilities
- Qualified employee discounts
- No additional cost services
RKL has a deep bench of tax professionals who can help business owners understand these distinctions and manage taxability accordingly. Contact one of our offices today for assistance in reporting fringe benefits correctly.
Contributed by Ethel A.M. Nawrocki, CPA, a principal in RKL’s Tax Services Group. Ethel specializes in tax, accounting and consulting services for the manufacturing, wholesale, distribution, construction and real estate rental industries.