Understanding Imputed Income: Tax Implications for Employees

You know that benefits and compensation come in all different forms – the IRS is interested in all of them. Whether you receive a gift card as a company-wide bonus or drive a company vehicle, you’ll need to pay taxes on their value.

These types of fringe benefits may count as taxable income, so it’s important to understand how to calculate imputed income, especially if you file tax returns.

What Is Imputed Income?

Imputed income is the value of compensation that’s not monetary, typically given to employees by way of fringe benefits. This type of income will be added to an employee’s gross wages so the employer can withhold employment taxes. It doesn’t count as net pay since the fringe benefits were given in a non-monetary fashion.

What Are Some Examples of Imputed Income?

There are a wide range of items that qualify as imputed income or taxable fringe benefits.

The following is a list of items commonly considered as imputed income:

• Employee discounts
• Group term life insurance over $50,000
• Personal use of employee vehicle
• Education assistance that surpasses the nontaxable amount
• Assistance for adoption that surpasses the nontaxable amount
• Gym memberships
• Fitness incentives
• Nondeductible reimbursements for moving expenses
• Care for dependents that surpasses the tax-free amount
• Adding a nondependent or domestic partner to your health insurance policy

What Are Fringe Benefits?

Fringe benefits are goods, stipends, experiences or services that are given to employees on top of their regular salary. Fringe benefits are taxable. For instance, an employee who earns a $100 gift card for completing a project ahead of schedule needs to report that as imputed income.

How Does Imputed Income Affect Taxes?

Imputed income needs to be added to an employee’s taxable or gross income unless it can specifically be exempt. The reason imputed income isn’t included in the employee’s net income is because they’ve received the benefit in some other way. However, employers need to include it in an employee’s W-2 form for tax purposes because it needs to be treated as income.

Imputed income is typically not subjected to federal income tax withholding, but is subjected to Social Security and Medicare taxes. An employee can choose to withhold a specific amount of federal income tax from the imputed income or pay the taxes due when filing their annual return.

What About Domestic Partner Imputed Income?

Imputed income for domestic partners works differently than ones provided to legal dependents and spouses. If an employee is legally married, the spouse will be entitled to qualifying tax-free employee benefits, such as health insurance.

However, employers need to calculate the domestic partner's imputed income if the employee isn’t legally married to this person. That is, unless the domestic partner can be claimed as a dependent on the employee’s tax return.

For a domestic partner to qualify as a dependent, this person needs to live full-time with the employee, receive more than half of their overall financial support from the employee and have a gross income of no more than $4,300 for the 2020 tax year.

Employers who make contributions toward health premiums for domestic partners who don’t qualify as a dependent and receive benefits will also need to count that as imputed income.

Are There Nontaxable Fringe Benefits?

There are various ways that employers can provide some fringe benefits that may not be taxable in the eyes of the IRS. These types of benefits are also referred to as “de minimis (minimal) benefits” since they have so little in value that the IRS doesn’t feel it’s necessary to keep administrative records of them.

The IRS states that any fringe benefit worth less than $100 isn’t considered a de minimis benefit, so it’s a good idea for employers to stay well under that amount.

Examples of nontaxable fringe benefits include:

• Flowers or a fruit basket for special occasions
• Company picnics
• The occasional use of a copy machine provided by the company
• The occasional ticket to entertainment or sporting events
• Birthday or holiday gifts that are less than $100
• Company swag such as T-shirts, water bottles and keychains

It can be cumbersome to figure out what counts as taxable income. For assistance, consult the IRS’ Fringe Benefit Guide to learn the latest guidelines in regard to imputed income.

How To Report Imputed Income

Since imputed income is subject to taxes, employers need to report it on an employee’s W-2 form. That means employers need to track the value of their imputed income, much like they would do with regular wages throughout the calendar year. Employers will also need to input a specific code to indicate the type of benefit – nontaxable ones are excluded.

Reporting imputed income from an employer’s perspective can be simple depending on the type of benefit. Benefits such as adoption assistance, group term life insurance or ones with assigned values are straightforward to calculate.

Other ones like personal use of a company vehicle may be more complex, requiring employers to calculate the fair market value.  In this instance, the value of this fringe benefit is the cost an employee would be charged if leasing a car from outside the company.

The IRS does have strict rules in place for determining fair market value, particularly for valuing a car lease, so employers need to ensure they’re doing it correctly. Publication 15 B: Employer’s Tax Guide to Fringe Benefit is a useful document.

As for how often to report fringe benefits, employers need to do it at least once a year. However, it can be as often as semi-annually, quarterly or each pay period. No matter the frequency, it needs to be reported by the end of each calendar year in the year when fringe benefits were received.

Most of the time, it’s not necessary for employers to withhold federal taxes from an employee’s imputed income, but there are some cases when it’s not exempt. An employee has the option of withholding federal tax from their imputed income or waiting to pay it when filing a tax return. It’s a good idea for employers to let their employees know that penalties may apply if they don’t have sufficient tax withholdings and to consult the IRS if they have any questions.