New fringe benefit regulations make useful changes to car and plane valuation rules.

AuthorHevener, Mary B.

In final regulations published December 30, 1992 (at 57 Fed. Reg. 62192), the Internal Revenue Service and United States Department of the Treasury made several simplifying changes to the fringe benefit valuation and notification rules. These changes, which will generally prevent employers' minor errors in using these rules from creating major problems on audit --

* retroactively eliminate the requirement that employees must be notified about the special valuation rule used by the employer in valuing personal travel on company cars and planes;

* clarify the conditions under which the special valuation rules may be used (including on corrected Forms W-2 and 1099); and

* clarify the conditions under which special valuation rules may be applied to security protection (including transportation in employer-provided cars and planes) provided to certain employees.

These changes are included in final regulations governing both security protections provided to government workers and fringe benefits provided to volunteers for tax-exempt organizations. The Treasury Department's changes respond favorably to comments on the fringe benefit regulations that have been submitted over the past two years by the Tax Executives Institute and others on behalf of numerous companies. These comments effectively communicated concerns about the prior regulations' limitation on use of the special valuation rules, including the over-complex employee notification requirements and an apparent prohibition on corrections, following an IRS audit, of prior years' inadvertent mistakes in applying the special valuation rules.

  1. Retroactive Elimination of Car/Plane Valuation Notices

    1. Prior Law

      Prior to the issuance of the amended final regulations, the special fringe benefit valuation rules that apply to employees' taxable use of company-provided cars, planes, and cafeterias have since 1985 contained detailed employee notification requirements. These valuation notices were required to explain to employees:

      * the valuation rules used by the employer,

      * the substantiation requirements applicable to employees' business use of company cars or planes, and

      * the penalties applicable to any failure to comply with these substantiation requirements.

      Written, dated notices were required to be provided by January 31 of the year in which the benefit was first provided to the employee (or, if later, within 30 days after the benefit was provided).(1*) After 1988, employers that failed to provide timely valuation notices to employees were prohibited from using the special valuation rules, unless they corrected the notification error by collecting affidavits from employees by January 31 of the year after the year in which the benefit was first provided, attesting that the employees already knew all the information that should have been provided in the valuation notice.(2)

    2. Reasons for Change

      Although IRS payroll agents apparently have not yet been auditing employers' compliance with notification requirements, many employers have been concerned that inadvertent failures to provide valuation notices to some workers would have required employees' personal use of company cars and planes to be valued, on audit, under fair market valuation (FMV) valuation rules. In the case of airplanes, these values (which approximate the cost of chartering the aircraft) can be 50 times higher than the special "SIFL" valuation rules provided in the fringe benefit regulations. Taxpayers argued that the employee notices proved an unnecessary paperwork burden, and that the penalty for failure to provide notice was both too harsh and imposed unfairly on employees, even though the failure to notify would have been an employer mistake.

    3. Amended Final Regulations

      In response to these criticisms, Treasury eliminated the employee notification requirement, retroactive to 1985, by deleting both Treas. Reg. Sections 1.61-21(c)(3)(ii) (applicable after 1988) and 1.61-2T(c)(3)(ii) (applicable from 1985 through 1988) from the current regulations. Employers are no longer required to inform employees about the special rules used in valuing employees' personal use of company cars and planes, or about the substantiation rules that must be satisfied to support employees' business use of such vehicles. Moreover, any failure by an employer to provide such notices in prior years will not trigger penalties of increases in the amounts of income imputed to employees.

    4. Withholding and Reporting Notices for Cars and Noncash Fringe Benefits Are Still Required

      These new final regulations do not change the requirement that employers inform employees (apparently, on an annual basis) about (1) the special withholding rules elected by the employer that apply to vehicles and (2) about the special reporting rules applicable to "noncash fringe benefits," as defined in Announcement 85-113, 1985-31 I.R.B. 31. That Announcement requires every employer to notify its employees if the employer elects not to withhold income taxes with respect to any "vehicle fringe benefits." Notices are also required if the employer elects to use a special fiscal-year rule for reporting any non-cash fringe benefits provided to the employee.

      Any notices exempting vehicles from income tax withholding must be mailed (or posted on an employee bulletin board) by January 31st of each year in which the special vehicle withholding rules are to be applied or, if later, within 30 days of the provision of the benefit to the employee.(3) Any notices with respect to use of the special accounting period rule must be provided at or near the time Forms W-2 for the year are provided to employees.(4) No notice of either type of election has ever been required to be provided to the IRS.

      The IRS has never announced any penalty for failure to provide these special withholding and reporting notices required by Announcement 85-113. If these notices are ever ruled to be a precondition to use of either the withholding exemption under section 3402(s) for vehicles, or the special accounting period rules developed as part of the year-end withholding rules mandated by the Recordkeeping Repeal Act of 1985,(5) however, IRS payroll agents could assess penalties on employers for failure to withhold and report at the time each particular noncash fringe benefit is provided.

  2. Adoption of "Second Chance" Rule Allowing Use of Safe Harbor Valuation Rules on Corrected Forms W-2 and 1099

    1. Prior Law

      The temporary regulations in effect from 1985 through 1988 and the final regulations in effect after 1988 contained an additional restriction (separate from the valuation notice requirement) on use of the special valuation rules. The additional restriction, which was designed to encourage employers to elect to use these rules and to use them correctly, became known as the "no second chance" rule. More specifically, if an employee's personal trip in an employer-provided plane or car had been undervalued (under the special...

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