Easy New Payroll Tax Savings from Employee-Paid Parking and Transit Benefits.

• Author: Hevener, Mary B.

Almost eight years after the statute was enacted, the Internal Revenue Service has issued proposed regulations under section 132(f) of the Internal Revenue Code, which pertains to "qualified transportation fringes." This is welcome news, because for years employers have struggled with the uncertainties associated with administering qualified transportation fringe benefit plans, on a "salary reduction basis," without the benefit of adequate guidance. This article reviews the proposed regulations.(1)

Background of the Legislative Changes

The exclusion for "qualified transportation fringes" found in subsection (f) of section 132 was added to the Code by the Energy Policy Act of 1992(2)--an Act intended not only to raise revenue, but to encourage the conservation of energy and reduction of pollution by discouraging commuters from driving to work in single-person-occupied vehicles. This Act resulted in three changes to the way employers could offer certain commuting-related benefits to employees up to specific statutory monthly limitations. First, the value of transportation provided by an employer to an employee in a commuter highway vehicle (i.e., a van pool) became excludable up to $60 a month (adjusted for cost of living). Second, mass transit passes, previously excludable only as de minimis fringes not exceeding $21 a month in value, became excludable up to the same $60 monthly level as van pool benefits. Finally, in order to pay for these two new exclusions, the unlimited working condition fringe benefit for parking(3) was eliminated and replaced by a $150 monthly limitation (adjusted for cost of living) for "qualified parking." The 1992 amendment to section 132 provided that qualified transportation fringes could not be provided in lieu of salary.

Even though the purpose of the qualified transportation fringe provision was to promote mass transit, Congress amended section 132(f)(6) in 1997 to permit qualified parking to be provided to employees in lieu of salary.(4) The inequity of making this cash-option treatment available for parking, but not van pool or mass transit benefits, was remedied (retroactively) by the appropriately named Transportation Equity Act for the 21st Century.(5) In addition to permitting any qualified transportation fringe to be provided in lieu of salary, this legislation increased the base amounts for the monthly dollar limits (i.e., $65 for both van pool and mass transit benefits and $175 for parking, adjusted for cost of living).

Until January's release of proposed regulations under section 132(f), the only guidance that had been issued by Treasury was Notice 94-3, 1994-1 C.B. 327. The proposed regulations purportedly "generally conform with the guidance in Notice 94-3," as well as reflect statutory changes since 1994, and provide "additional guidance concerning the standards for determining when the section 132(f) exclusion applies to cash reimbursement of transit pass expenses."(6) Like the Notice, the proposed regulations are presented in Question-and-Answer format.

Basic Rules

The proposed regulations explain that, for purposes of determining the amount of excludable benefits, there are two categories of transportation fringe benefits: (1) transportation in a "commuter highway vehicle."(7) and transit passes;(8) and (2) qualified parking.(9) Prop. Treas. Reg. [sections] 1.132-9, Q/A 1 ("Q/A--"). For 1999 and 2000, the statutory limits for the two categories are $65 and $175, respectively.(10) An employee may receive benefits from each category, which means that for 2000 an employee may receive $240 a month in tax-free qualified transportation fringes.(11) The value of benefits exceeding the sum of the amount, if any, paid by the employee and the applicable amount excludable under section 132(f) must be included in the employee's wages for income and employment tax purposes. Q/A 8.

Qualified transportation fringes may be provided only to "employees," which for this purpose is limited to common law employees and other statutory employees, such as officers of a corporation. Thus, individuals who are partners, sole proprietors, independent contractors, and two-percent shareholders of S corporations (regardless of the fact that the two-percent shareholders may also be employees of the corporation) are not employees for purposes of section 132(f) of the Code. Q/As 5 and 24.

Although the employer's plan does not need to be in writing, the information required for a salary reduction election must be in writing or in another permanent or verifiable form. Q/A 12(a). Benefits under a qualified transportation assistance plan are not subject to any special information reporting requirements, with respect either to benefits provided to individual participants or to aggregate benefits (like health care or educational assistance).

Rules for Calculating the Statutory Limitations

Q/A 9 of the proposed regulations provides that the value of a qualified transportation fringe must be calculated on a monthly basis to determine whether the benefit has exceeded the applicable statutory monthly limit. The monthly exclusion amounts may not be combined to provide a benefit in any month exceeding the statutory limit. In the case of in-kind transit benefits other than those provided through salary reduction, however, Q/A 9 offers the following generous rule:

In the case, of a transit pass, the applicable statutory limit applies to the transit passes provided by the employer to the employee in a month for that month or for any previous month in the calendar year. (Emphasis added.) This ability to offer in-kind transit passes on a look-back basis is discussed in Example 2 of Q/A 9, where Employee F, who was hired in January, receives tax-free transit passes in March totaling $195 (3 months times $65).(12) The example warns that this tax-free treatment would not have applied to the issuance of transit passes for January and February had Employee F not been an employee during those months. But the rule in Q/A 9, when coupled with Q/A 18,(13) enables an employer to issue transit passes to an employee for any previous month in the year in which the employee was actually employed without having to require certification by the employee...