A Tax Free Way to Help Your Employees Amid COVID-19|
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By: Charles Webb and Craig Fisher
In response to the terrorist attacks on Sept. 11, 2001, Congress enacted IRC Section 139 to directly aid workers across the country whose lives and families were impacted by the national disaster. The legislation provides preferential tax treatment for “qualified disaster relief payments” by clarifying that relief payments paid by employers or charitable organizations should not be included as an employee’s gross income. Historically, Congress has invoked IRC Section 139 in a number of other instances when a federal disaster declaration has been made to maximize the relief available to individuals. The legislation defines a “qualified” disaster as one that has been Presidentially declared or determined by the Secretary of the Treasury, and a list of rulings where IRC Section 139 was in effect for specified disasters can be found on the IRS webpage.
Although there has not yet been specific published guidance by the IRS related to COVID-19, employers and individuals should be prepared to understand how this potential ruling could impact their tax burden.
The relief payments that qualify under IRC Section 139 include payment or reimbursement for “reasonable and necessary personal, family, living, or funeral expenses incurred as a result of a qualified disaster,” as well as the repair or replacement of homes and their contents. However, these qualified disaster relief payments are carefully designed to prevent individuals from “double-dipping,” or using the relief payment from an employer or charitable organization to compensate for something that has already been covered by insurance or another entity. That being said, IRC Section 139 also ensures that any “qualified disaster mitigation payments” are excluded from gross income as well. As defined in the code, a “qualified disaster mitigation payment” means any amount paid out through the Robert T. Stafford Disaster Relief and Emergency Assistance Act or the National Flood Insurance Act, which both provide separate forms of aid in the event of a disaster.
IRC Section 139 further provides that these qualified disaster relief payments should not be taxed as net earnings from self-employment, wages or compensation. As such, the payments are not includible as income for the employees, and the payments remain deductible by an employer to the same extent they would be if the payments were includible in the income of the employee.
While there are no specific regulations under IRC Section 139, the IRS has issued Rev. Rul. 2003-12, which provides examples of situations when IRC Section 139 may apply and how a taxpayer may structure a program so that these types of payments will apply.
Rev. Rul. 2003-12 states that, for employer payments to be excluded from the income of an employee under IRC Section 139, the payments should be commensurate with the unreimbursed expenses of the employee as a result of a qualified disaster, to the extent that the expenses are reasonable and necessary. Furthermore, the payments must be made in accordance with the terms of a written program adopted by the employer. Therefore, as a first step when IRC Section 139 is invoked, an employer should establish a written program that clearly documents terms for potential disaster relief payments to employees. The program should be approved by the employer’s owners, board of directors, or other governing bodies, and it is recommended that the program include a(n):
- Statement of the declared disaster;
- Identification of which employees are eligible to receive payments;
- List of the potential types of expenses that may be reimbursed, (i.e., the expenses listed in IRC Section 139);
- Provision for broad discretionary authority by the plan administrator to make discretionary decisions on payment amounts;
- Some form of an application process;
- Requirement that the employee agrees to be bound by the terms of the program document;
- Potential cap on the amount paid each employee;
- A statement that the payments received are for qualifying purposes; and,
- End date to the program.
While most of the burden for documentation falls to the employer for means of possible tax deductions, employees receiving relief payments from their employer or a charitable organization should consider maintaining appropriate documentation as well. Although the legislation does not require it, a best practice is for the employee to retain itemized receipts that can prove the payment received is excludable under IRC Section 139.
While there has not yet been published guidance related to COVID-19 by the IRS, President Trump did declare a national emergency in relation to the disease on March 13, 2020. If you are an employer or a charitable organization, you may be impacted by this ruling, and Aprio’s advisors are prepared to help you understand the possible tax deductions or otherwise navigate the varying requirements. Reach out to your Aprio Relationship Partner or contact us with questions.