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What are fringe benefits and how are they taxed in the US?

Vanessa Kruze Kruze Consulting

Vanessa Kruze

CEO and Founder of Kruze Consulting

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Fringe benefits are perks (instead of cash payments) from your employer. They are taxed as Box 1 income on your W2. Here’s a great example:

A lot of our startup CEOs have asked us if they can pay for their employees rent/car/food in lieu of salary, often citing that their friend at Google/Apple/Genentech gets such a perk.

The short answer is no, you should not be implementing big perks programs at your startup. Tread carefully on any perk you may offer. Why not offer them? Here’s why:

  • These perks are taxable fringe benefits. In essence, your employee would be receiving a benefit that they otherwise would’ve paid for themselves. They’re living the same (or better!) lives that they would have had on a normal salary, except their W2 is lower and the company didn’t have to pay as much employer payroll tax. So while both the company and the employee are now better off, the tax man got cut out of the deal. And now he’s pissed. He wants the employee to pay taxes in what would have been a higher tax bracket. He wants the company to pay its proper FICA taxes.

  • They cost a lot of G&A time to properly administer. Yes, I know, the big companies do offer these perks. But they’re only able to do so by allocating these benefits right back to the employee’s W2 and the company’s payroll taxes. That takes a swarm of accountants of tax folk to get it right.

  • The penalties are big if you get it wrong. The IRS takes income tax really seriously and you have to get it exactly right. E.x.a.c.t.l.y. Even if you’re $100 off you will be penalized with interest.

  • Net-net, you’ll end up in the same place or worse off. So after you’ve lowered your employees’ salary, paid for their rent, allocated the benefit to their W2 and your company’s FICA taxes, paid for your accountants to figure the whole thing out, you ta-da! are in the exact same spot. Maybe even worse off because you wasted a lot of time.

Bottom line: unless the IRS specifically excludes a perk (full list here: Publication 15), you need to include the FMV of that benefit in their W2. Here’s our short list of startup perks that should be included in your employee’s W2 as taxable income:

  • Rent (unless on site)
  • Moving Expenses
  • Performance Awards (cash, trips, sporting event tickets, etc)
  • Athletic Memberships (unless on site)
  • Bicycle commuting reimbursements
  • Commuter Benefits (amounts over $3,120/year)
  • Tuition (amounts over $5,250/year)

So what about the little stuff? The team lunches? The coffees? For startups, it is often it’s too small to worry about. As long as you keep these “perks” small, reasonable, and infrequent, you should be fine. For startups, it’s just too cumbersome to account for. It would be unreasonable or administratively impracticable.

***Big caveat: your situation is unique, this answer is highly tailored to venture-backed DE C-Corp startups, and you should seek advice from an independent advisor before acting on any information presented. This isn’t a complete list and should not be construed as legal, accounting, or tax advice or opinion provided by me. The material appearing in this communication is for informational purposes only.

Updated December 2018


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