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Rewarding employee achievement.

Generally, prizes and awards are taxable to a recipient, even if given by an employer to employees. However, since 1987, employees have been able to exclude certain achievement awards if they follow some specific requirements.

ACHIEVEMENT AWARDS

To be excluded from taxes, an award must be tangible personal property transferred by an employer to an employee in recognition for length of service or safety achievement.

However, only tangible personal property is eligible for this exclusion; cash, gift certificates, intangible property, real estate or other such items do not qualify (and must be included in income).

In addition, the award cannot be disguised compensation: It cannot substitute for an earlier program of awarding cash bonuses; it cannot be given at the time of annual salary adjustments; it cannot discriminate in a way that favors highly paid employees; and its cost cannot be grossly disproportionate to its fair market value (FMV).

Length-of-service awards. If an employee received such an award during the first five years of employment or during the current year or any of the previous four years, that award does not qualify for the exclusion (unless it is a de minimis fringe benefit).

Note: Traditional retirement gifts that ordinarily would violate this rule, such as gold watches (which normally commemorate longevity), are considered nontaxable de minimis fringe benefits.

Safety awards. Managerial, administrative, clerical or other professional employees are not eligible for safety awards; in addition, not more than 10% of an employer's eligible employees may receive safety awards. (Thus, companies with fewer than 10 employees are not eligible for this exclusion.)

Note: Employee productivity awards are not excludable (and must be included in income).

DE MINIMIS REINGE BENEFITS

In general, fringe benefits, like other remuneration for an employee's services, are taxable to an employee as income. However, employees need not include in income de minimis fringe benefits-employer-provided properties or services (such as a company Christmas party) with values so small that, taking into account their frequency for all employees, accounting is either unreasonable or administratively impractical. As a rule, employee achievement awards are not excludable as de minimis fringe benefits.

QUALIFIED PLAN

An employee-achievement award program must be a permanent written plan that does not discriminate in favor of highly compensated employees. These are employees who are 5% owners; who receive more than $75,000 in compensation; who are in a top-heavy group and receive more than 45,000 in compensation.

AWARD LIMITS

In general, the award value is not included in an employee's income if it does not exceed the employer's deduction.

If the award is made under a qualified plan, an employer is limited to a $1,600 deduction for the cost of all such awards to the same employee during the tax year. If it is not a qualified-plan award, the deduction is limited to 400. (These limitations relate to the award's cost, not its FMV.) If the awards are under these limits, employees may exclude their entire FMVs from gross income.

If any part of the employer's award cost exceeds its deduction limit, the employee must include in gross income the greater of the portion of the employer's cost that is not deductible (up to the award's FMV) or the excess of the award's FMV over the employer's maximum allowable deduction. (The remaining portion of the award's FMV is excluded from the employee's income.)

Note: Any amount excludable from the employee's income is also excludable for employment and Social Security tax purposes.

For a discussion of these awards and other recent developments, see the Tax Clinic department, edited by Stuart R. Josephs, in the May 1992 issue of The Tax Advise.
COPYRIGHT 1992 American Institute of CPA's
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Author:Fiore, Nicholas J.
Publication:Journal of Accountancy
Date:May 1, 1992
Words:605
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