Table of Contents
Health savings accounts (HSA). You can fund your HSA with a one-time direct transfer from your individual retirement plan, health reimbursement account, or health flexible spending account and exclude the amount of the transfer from income.However, you must include the amount transferred in your income, as well as pay a 10% additional tax, if you do not remain an eligible individual for at least 12 months after the month of the transfer.
Foreign income. If you are a U.S. citizen or resident alien, you must report income from sources outside the United States (foreign income) on your tax return unless it is exempt by U.S. law. This is true whether you reside inside or outside the United States and whether or not you receive a Form W-2, Wage and Tax Statement, or Form 1099 from the foreign payer. This applies to earned income (such as wages and tips) as well as unearned income (such as interest, dividends, capital gains, pensions, rents, and royalties). If you reside outside the United States, you may be able to exclude part or all of your foreign source earned income. For details, see Publication 54, Tax Guide for U.S. Citizens and Resident Aliens Abroad.
This chapter discusses compensation received for services as an employee, such as wages, salaries, and fringe benefits. The following topics are included.
-
Bonuses and awards.
-
Special rules for certain employees.
-
Sickness and injury benefits.
The chapter explains what income is included in the employee's gross income and what is not included.
Publication
-
463 Travel, Entertainment, Gift, and Car Expenses
-
503 Child and Dependent Care Expenses
-
505 Tax Withholding and Estimated Tax
-
525 Taxable and Nontaxable Income
This section discusses various types of employee compensation including fringe benefits, retirement plan contributions, stock options, and restricted property.
This section discusses different types of employee compensation.
-
A length-of-service award if you received it for less than 5 years of service or if you received another length-of-service award during the year or the previous 4 years.
-
A safety achievement award if you are a manager, administrator, clerical employee, or other professional employee or if more than 10% of eligible employees previously received safety achievement awards during the year.
Example.
Ben Green received three employee achievement awards during the year: a nonqualified plan award of a watch valued at $250, and two qualified plan awards of a stereo valued at $1,000 and a set of golf clubs valued at $500. Assuming that the requirements for qualified plan awards are otherwise satisfied, each award by itself would be excluded from income. However, because the $1,750 total value of the awards is more than $1,600, Ben must include $150 ($1,750 – $1,600) in his income.
www.irs.gov/pub/irs-irbs/irb05-02.pdf.
For tax years beginning after 2007, portions of Notice 2005-1 are obsolete and replaced by final regulations issued under section 409A. For information on the applicability of the regulations, see the preamble to Treasury Decision 9321 on page 1123 of Internal Revenue Bulletin 2007-19 at www.irs.gov/pub/irs-irbs/irb07-19.pdf.
-
A welfare fund.
-
A state sickness or disability fund.
-
An association of employers or employees.
-
An insurance company, if your employer paid for the plan.
Fringe benefits received in connection with the performance of your services are included in your income as compensation unless you pay fair market value for them or they are specifically excluded by law. Abstaining from the performance of services (for example, under a covenant not to compete) is treated as the performance of services for purposes of these rules.
-
The general rule: benefits are reported for a full calendar year (January 1–December 31).
-
The special accounting period rule: benefits provided during the last 2 months of the calendar year (or any shorter period) are treated as paid during the following calendar year. For example, each year your employer reports the value of benefits provided during the last 2 months of the prior year and the first 10 months of the current year.
Your employer does not have to use the same accounting period for each fringe benefit, but must use the same period for all employees who receive a particular benefit. You must use the same accounting period that you use to report the benefit to claim an employee business deduction (for use of a car, for example).
Generally, the value of accident or health plan coverage provided to you by your employer is not included in your income. Benefits you receive from the plan may be taxable, as explained later under Sickness and Injury Benefits.
For information on the items covered in this section, other than Long-term care coverage, see Publication 969, Health Savings Accounts and Other Tax-Favored Health Plans.
You may be able to exclude from your income amounts paid or expenses incurred by your employer for qualified adoption expenses in connection with your adoption of an eligible child. See the Instructions for Form 8839 for more information.
Adoption benefits are reported by your employer in box 12 of Form W-2 with code T. They also are included as social security and Medicare wages in boxes 3 and 5. However, they are not included as wages in box 1. To determine the taxable and nontaxable amounts, you must complete Part III of Form 8839, Qualified Adoption Expenses. File the form with your return.
If your employer provides you with a product or service and the cost of it is so small that it would be unreasonable for the employer to account for it, the value is not included in your income. Generally, the value of benefits such as discounts at company cafeterias, cab fares home when working overtime, and company picnics are not included in your income.
You can exclude from your income up to $5,250 of qualified employer-provided educational assistance. For more information, see Publication 970, Tax Benefits for Education.
If your employer provides a car (or other highway motor vehicle) to you, your personal use of the car is usually a taxable noncash fringe benefit.
Your employer must determine the actual value of this fringe benefit to include in your income. For more information, see Publication 525.
Certain employer-provided transportation can be excluded from gross income. See the discussion on Transportation, later.
Generally, the cost of up to $50,000 of group-term life insurance coverage provided to you by your employer (or former employer) is not included in your income. However, you must include in income the cost of employer-provided insurance that is more than the cost of $50,000 of coverage reduced by any amount you pay toward the purchase of the insurance.
For exceptions, see Entire cost excluded , and Entire cost taxed, later.
If your employer provided more than $50,000 of coverage, the amount included in your income is reported as part of your wages in box 1 of your Form W-2. It also is shown separately in box 12 with code C.
-
Provides a general death benefit,
-
Is provided to a group of employees,
-
Is provided under a policy carried by the employer, and
-
Provides an amount of insurance to each employee based on a formula that prevents individual selection.
1. | Enter the total amount of your insurance coverage from your employer(s) | 1. | |||
2. | Limit on exclusion for employer-provided group-term life insurance coverage | 2. | 50,000 | ||
3. | Subtract line 2 from line 1 | 3. | |||
4. | Divide line 3 by $1,000. Figure to the nearest tenth | 4. | |||
5. | Go to Table 5-1. Using your age on the last day of the tax year, find your age group in the left column, and enter the cost from the column on the right for your age group | 5. | |||
6. | Multiply line 4 by line 5 | 6. | |||
7. | Enter the number of full months of coverage at this cost. | 7. | |||
8. | Multiply line 6 by line 7 | 8. | |||
9. | Enter the premiums you paid per month | 9. | |||
10. | Enter the number of months you paid the premiums | 10. | |||
11. | Multiply line 9 by line 10. | 11. | |||
12. | Subtract line 11 from line 8. Include this amount in your income as wages | 12. |
Example.
You are 51 years old and work for employers A and B. Both employers provide group-term life insurance coverage for you for the entire year. Your coverage is $35,000 with employer A and $45,000 with employer B. You pay premiums of $4.15 a month under the employer B group plan. You figure the amount to include in your income as follows.
1. | Enter the total amount of your insurance coverage from your employer(s) | 1. | 80,000 | ||
2. | Limit on exclusion for employer-provided group-term life insurance coverage | 2. | 50,000 | ||
3. | Subtract line 2 from line 1 | 3. | 30,000 | ||
4. | Divide line 3 by $1,000. Figure to the nearest tenth | 4. | 30.0 | ||
5. | Go to Table 5-1. Using your age on the last day of the tax year, find your age group in the left column, and enter the cost from the column on the right for your age group | 5. | .23 | ||
6. | Multiply line 4 by line 5 | 6. | 6.90 | ||
7. | Enter the number of full months of coverage at this cost. | 7. | 12 | ||
8. | Multiply line 6 by line 7 | 8. | 82.80 | ||
9. | Enter the premiums you paid per month | 9. | 4.15 | ||
10. | Enter the number of months you paid the premiums | 10. | 12 | ||
11. | Multiply line 9 by line 10. | 11. | 49.80 | ||
12. | Subtract line 11 from line 8. Include this amount in your income as wages | 12. | 33.00 |
Table 5-1. Cost of $1,000 of Group-Term Life Insurance for One Month
Age | Cost |
Under 25 | $.05 |
25 through 29 | .06 |
30 through 34 | .08 |
35 through 39 | .09 |
40 through 44 | .10 |
45 through 49 | .15 |
50 through 54 | .23 |
55 through 59 | .43 |
60 through 64 | .66 |
65 through 69 | 1.27 |
70 and older | 2.06 |
-
You are permanently and totally disabled and have ended your employment.
-
Your employer is the beneficiary of the policy for the entire period the insurance is in force during the tax year.
-
A charitable organization (defined in chapter 24) to which contributions are deductible is the only beneficiary of the policy for the entire period the insurance is in force during the tax year. (You are not entitled to a deduction for a charitable contribution for naming a charitable organization as the beneficiary of your policy.)
-
The plan existed on January 1, 1984, and
-
You retired before January 2, 1984, and were covered by the plan when you retired, or
-
You reached age 55 before January 2, 1984, and were employed by the employer or its predecessor in 1983.
-
-
The insurance is provided by your employer through a qualified employees' trust, such as a pension trust or a qualified annuity plan.
-
You are a key employee and your employer's plan discriminates in favor of key employees.
If your employer has a qualified retirement plan, qualified retirement planning services provided to you (and your spouse) by your employer are not included in your income. Qualified services include retirement planning advice, information about your employer's retirement plan, and information about how the plan may fit into your overall individual retirement income plan. You cannot exclude the value of any tax preparation, accounting, legal, or brokerage services provided by your employer.
If your employer provides you with a qualified transportation fringe benefit, it can be excluded from your income, up to certain limits. A qualified transportation fringe benefit is:
-
Transportation in a commuter highway vehicle (such as a van) between your home and work place,
-
A transit pass, or
-
Qualified parking.
Cash reimbursement by your employer for these expenses under a bona fide reimbursement arrangement also is excludable. However, cash reimbursement for a transit pass is excludable only if a voucher or similar item that can be exchanged only for a transit pass is not readily available for direct distribution to you.
-
For transporting employees between their homes and work place, and
-
On trips during which employees occupy at least half of the vehicle's adult seating capacity (not including the driver).
Your employer's contributions to a qualified retirement plan for you are not included in income at the time contributed. (Your employer can tell you whether your retirement plan is qualified.) However, the cost of life insurance coverage included in the plan may have to be included. See Group-Term Life Insurance, earlier, under Fringe Benefits.
If your employer pays into a nonqualified plan for you, you generally must include the contributions in your income as wages for the tax year in which the contributions are made. However, if your interest in the plan is not transferable or is subject to a substantial risk of forfeiture (you have a good chance of losing it) at the time of the contribution, you do not have to include the value of your interest in your income until it is transferable or is no longer subject to a substantial risk of forfeiture.
For information on distributions from retirement plans, see Publication 575, Pension and Annuity Income (or Publication 721, Tax Guide to U.S. Civil Service Retirement Benefits, if you are a federal employee or retiree).
-
Cash or deferred arrangements (section 401(k) plans).
-
The Thrift Savings Plan for federal employees.
-
Salary reduction simplified employee pension plans (SARSEP).
-
Savings incentive match plans for employees (SIMPLE plans).
-
Tax-sheltered annuity plans (403(b) plans).
-
Section 501(c)(18)(D) plans.
-
Section 457 plans.
If you receive a nonstatutory option to buy or sell stock or other property as payment for your services, you usually will have income when you receive the option, when you exercise the option (use it to buy or sell the stock or other property), or when you sell or otherwise dispose of the option. However, if your option is a statutory stock option, you will not have any income until you sell or exchange your stock. Your employer can tell you which kind of option you hold. For more information, see Publication 525.
Generally, if you receive property for your services, you must include its fair market value in your income in the year you receive the property. However, if you receive stock or other property that has certain restrictions that affect its value, you do not include the value of the property in your income until it has substantially vested. (You can choose to include the value of the property in your income in the year it is transferred to you.) For more information, see Restricted Property in Publication 525.
This section deals with special rules for people in certain types of employment: members of the clergy, members of religious orders, people working for foreign employers, military personnel, and volunteers.
If you are a member of the clergy, you must include in your income offerings and fees you receive for marriages, baptisms, funerals, masses, etc., in addition to your salary. If the offering is made to the religious institution, it is not taxable to you.
If you are a member of a religious organization and you give your outside earnings to the organization, you still must include the earnings in your income. However, you may be entitled to a charitable contribution deduction for the amount paid to the organization. See chapter 24.
If you are a member of a religious order who has taken a vow of poverty, how you treat earnings that you renounce and turn over to the order depends on whether your services are performed for the order.
Example.
You are a member of a church order and have taken a vow of poverty. You renounce any claims to your earnings and turn over to the order any salaries or wages you earn. You are a registered nurse, so your order assigns you to work in a hospital that is an associated institution of the church. However, you remain under the general direction and control of the order. You are considered to be an agent of the order and any wages you earn at the hospital that you turn over to your order are not included in your income.
-
They are the kind of services that are ordinarily the duties of members of the order.
-
They are part of the duties that you must exercise for, or on behalf of, the religious order as its agent.
Example.
Mark Brown is a member of a religious order and has taken a vow of poverty. He renounces all claims to his earnings and turns over his earnings to the order.
Mark is a schoolteacher. He was instructed by the superiors of the order to get a job with a private tax-exempt school. Mark became an employee of the school, and, at his request, the school made the salary payments directly to the order.
Because Mark is an employee of the school, he is performing services for the school rather than as an agent of the order. The wages Mark earns working for the school are included in his income.
Special rules apply if you work for a foreign employer.
-
You are not a citizen of the United States or you are a citizen of the Philippines (whether or not you are a citizen of the United States).
-
Your work is like the work done by employees of the United States in foreign countries.
-
The foreign government gives an equal exemption to employees of the United States in its country.
Payments you receive as a member of a military service generally are taxed as wages except for retirement pay, which is taxed as a pension. Allowances generally are not taxed. For more information on the tax treatment of military allowances and benefits, see Publication 3, Armed Forces' Tax Guide.
-
Education, training, and subsistence allowances.
-
Disability compensation and pension payments for disabilities paid either to veterans or their families.
-
Grants for homes designed for wheelchair living.
-
Grants for motor vehicles for veterans who lost their sight or the use of their limbs.
-
Veterans' insurance proceeds and dividends paid either to veterans or their beneficiaries, including the proceeds of a veteran's endowment policy paid before death.
-
Interest on insurance dividends you leave on deposit with the VA.
-
Benefits under a dependent-care assistance program.
-
The death gratuity paid to a survivor of a member of the Armed Forces who died after September 10, 2001.
-
Payments made under the compensated work therapy program.
The tax treatment of amounts you receive as a volunteer worker for the Peace Corps or similar agency is covered in the following discussions.
-
Allowances paid to your spouse and minor children while you are a volunteer leader training in the United States.
-
Living allowances designated by the Director of the Peace Corps as basic compensation. These are allowances for personal items such as domestic help, laundry and clothing maintenance, entertainment and recreation, transportation, and other miscellaneous expenses.
-
Leave allowances.
-
Readjustment allowances or termination payments. These are considered received by you when credited to your account.
Example.
Gary Carpenter, a Peace Corps volunteer, gets $175 a month as a readjustment allowance during his period of service, to be paid to him in a lump sum at the end of his tour of duty. Although the allowance is not available to him until the end of his service, Gary must include it in his income on a monthly basis as it is credited to his account.
This section discusses sickness and injury benefits including disability pensions, long-term care insurance contracts, workers' compensation, and other benefits.
Generally, if you retire on disability, you must report your pension or annuity as income.
You may be entitled to a tax credit if you were permanently and totally disabled when you retired. For information on this credit and the definition of permanent and total disability, see chapter 33.
For information on disability payments from a governmental program provided as a substitute for unemployment compensation, see chapter 12.
Do not report as income any amounts paid to reimburse you for medical expenses you incurred after the plan was established.
Certain military and government disability pensions are not taxable.
-
The armed forces of any country.
-
The National Oceanic and Atmospheric Administration.
-
The Public Health Service.
-
The Foreign Service.
-
You were entitled to receive a disability payment before September 25, 1975.
-
You were a member of a listed government service or its reserve component, or were under a binding written commitment to become a member, on September 24, 1975.
-
You receive the disability payments for a combat-related injury. This is a personal injury or sickness that
-
Results directly from armed conflict,
-
Takes place while you are engaged in extra-hazardous service,
-
Takes place under conditions simulating war, including training exercises such as maneuvers, or
-
Is caused by an instrumentality of war.
-
-
You would be entitled to receive disability compensation from the Department of Veterans Affairs (VA) if you filed an application for it. Your exclusion under this condition is equal to the amount you would be entitled to receive from the VA.
Long-term care insurance contracts generally are treated as accident and health insurance contracts. Amounts you receive from them (other than policyholder dividends or premium refunds) generally are excludable from income as amounts received for personal injury or sickness. To claim an exclusion for payments made on a per diem or other periodic basis under a long-term care insurance contract, you must file Form 8853 with your return.
A long-term care insurance contract is an insurance contract that only provides coverage for qualified long-term care services. The contract must:
-
Be guaranteed renewable,
-
Not provide for a cash surrender value or other money that can be paid, assigned, pledged, or borrowed,
-
Provide that refunds, other than refunds on the death of the insured or complete surrender or cancellation of the contract, and dividends under the contract may be used only to reduce future premiums or increase future benefits, and
-
Generally not pay or reimburse expenses incurred for services or items that would be reimbursed under Medicare, except where Medicare is a secondary payer or the contract makes per diem or other periodic payments without regard to expenses.
-
Necessary diagnostic, preventive, therapeutic, curing, treating, mitigating, and rehabilitative services, and maintenance and personal care services, and
-
Required by a chronically ill individual and provided pursuant to a plan of care as prescribed by a licensed health care practitioner.
-
An individual who, for at least 90 days, is unable to perform at least two activities of daily living without substantial assistance due to loss of functional capacity. Activities of daily living are eating, toileting, transferring, bathing, dressing, and continence.
-
An individual who requires substantial supervision to be protected from threats to health and safety due to severe cognitive impairment.
Amounts you receive as workers' compensation for an occupational sickness or injury are fully exempt from tax if they are paid under a workers' compensation act or a statute in the nature of a workers' compensation act. The exemption also applies to your survivors. The exemption, however, does not apply to retirement plan benefits you receive based on your age, length of service, or prior contributions to the plan, even if you retired because of an occupational sickness or injury.
If part of your workers' compensation reduces your social security or equivalent railroad retirement benefits received, that part is considered social security (or equivalent railroad retirement) benefits and may be taxable. For more information, see Publication 915, Social Security and Equivalent Railroad Retirement Benefits.
In addition to disability pensions and annuities, you may receive other payments for sickness or injury.
-
Compensatory damages you receive for physical injury or physical sickness, whether paid in a lump sum or in periodic payments.
-
Benefits you receive under an accident or health insurance policy on which either you paid the premiums or your employer paid the premiums but you had to include them in your income.
-
Disability benefits you receive for loss of income or earning capacity as a result of injuries under a no-fault car insurance policy.
-
Compensation you receive for permanent loss or loss of use of a part or function of your body, or for your permanent disfigurement. This compensation must be based only on the injury and not on the period of your absence from work. These benefits are not taxable even if your employer pays for the accident and health plan that provides these benefits.
More Online Publications |