On December 20, 2017, Congress passed the Tax Cuts and Jobs Act (the “Act”), which some consider to be the most sweeping tax reform in 30 years. While the main focus of tax reform is to reduce tax rates for corporations and individuals, the law also impacts employee benefit plans and fringe benefits offered to employees. This client alert summarizes key provisions of tax reform and its impact on employee benefit plans.
- Elimination of the ACA’s Individual Mandate. Despite initial disagreement on the issue, the House and Senate agreed to eliminate the shared responsibility payment for individuals failing to maintain minimum essential health care coverage. The Act reduces the penalty for failure to obtain health coverage to $0, effectively eliminating the provision. The individual mandate will remain in effect for the years 2017 and 2018; the penalty will be reduced to $0 starting in 2019.
- Employer Tax Credit for Paid Family and Medical Leave. The Act adds a new tax credit for employers offering paid family and medical leave to employees. This provision comes on the heels of many states either implementing or considering the implementation of paid family leave. New York and Rhode Island both recently enacted paid leave laws. In order to be eligible for the credit of 12.5% of wages paid during leave, employers must have a written paid leave program that pays qualified employees at least 50% of their wages and must provide employees at least two weeks of annual paid family and medical leave. The employer credit will increase to as much as 25% of wages if the employer provides 100% continuing wages up to the 12-week maximum. The tax credit will go into effect for wages paid in 2018 and 2019.
- Elimination and Modification of Certain Fringe Benefits. The Act makes many changes to fringe benefits offered by employers to employees.
- Qualified Transportation Fringe Benefits. The new law eliminates the deduction for qualified transportation fringe benefits and transportation, payments, or reimbursements in connection with travel to and from work, except as necessary for an employee’s safety, which is not defined: and, an 8-year exception for qualified bicycle commuting. Additionally, tax-exempt entities must treat nondeductible qualified transportation fringe benefits or parking facilities as unrelated business taxable income (UBTI).
- Moving Expenses. The Act eliminates the moving expense deduction for employees’ qualified moving expense reimbursements. Starting in 2018 and lasting for eight years, employees must include reimbursed qualified moving expenses in income.
- Employer-Provided Meals. Starting in 2018 until 2026, employers will be limited to a 50% deduction for meal expenses provided on or near business premises. Employers are subject to the 50% limitation on deductions for food or beverages if the expenses are excludible from employees’ income as de minimis fringe benefit and for the convenience of the employer.
- Entertainment Expenses. Employers will lose their deduction for expenses related to entertainment, amusement, or recreation under the Act. Effective in 2018, employers can no longer take a deduction for 50% of entertainment expenses related to the employer’s business.
- Employee Achievement Awards. An employer deduction for the cost of an employee achievement award for length of service, safety award, and awards given during meaningful presentations must be pursuant to a qualified plan award, which does not favor highly compensated employees and the average cost of which per recipient cannot be more than $400 in a year. Such awards may be tangible personal property such as pins, jewelry or other items from a catalog.
- Onsite Gyms. The new law repeals the employer deduction for onsite gyms and characterizes amounts used to pay for on-premises athletic facilities as UBTI.
- Modification of Limitation on Deductible Employee Remuneration. Public employers should start reviewing their compensation arrangements in light of the new law. Section 162 of the Internal Revenue Code prohibits publicly traded companies from deducting more than $1 million per year in compensation paid to or accrued for senior executive officers. However, under pre-Act law, exceptions applied for: (a) commissions; (b) performance-based remuneration; (c) payments to a tax-qualified retirement plan; and (d) amounts that are excludable from the executive’s gross income. In an effort to reform executive compensation, the Act eliminates the exemption for commissions and performance-based pay under Internal Revenue Code Section 162. The Act also modifies the definition of “covered employee” for purposes of Section 162, expanding the definition to include the principal executive officer, the principal financial officer, and the three other highest paid officers. If an individual is a covered employee at any time on or after January 1, 2017, the individual remains a covered employee for all future years. Under a transition rule, the changes do not apply to any remuneration subject to a written binding contract in effect on November 2, 2017 and which was not modified in any material respect after that date.
- Extended Rollover Period for Plan Loan Offset Amounts. Prior to the Act, participants in a qualified plan were given 60 days to repay an outstanding plan loan that became due upon the participant’s termination of employment. However, tax reform extends the 60-day rollover deadline until the due date of the participant’s tax return for the year in which the amount is treated as distributed from the participant’s account. In other words, participants have a longer time period in which they can contribute to an IRA or another qualified employer plan in an amount equal to the plan loan offset amount. The contribution will be treated as a rollover offsetting the outstanding plan loan upon separation from employment. Employees whose plans terminate, or who separate from employment while they have outstanding plan loans, will have an extension for contributing the loan balance to an IRA or eligible retirement plan to prevent the loan from being taxed as a distribution.
- Medical Expense Deduction. Although the House originally wanted to repeal the medical expense deduction, the Act instead implements a temporary reduction of the medical expense deduction floor to 7.5% during 2017 and 2018. Starting in 2019, the deduction floor will return to its previous floor (10%). This means the threshold for employees to claim an itemized deduction for unreimbursed medical expenses will be reduced to 7.5% of adjusted gross income for the years 2017 and 2018.
- Recharacterization of Roth IRA Contributions. The Act repeals the rule allowing for the recharacterization of Roth IRA contributions as traditional IRA contributions to unwind a Roth conversion. As a result, beginning in 2018, recharacterization cannot be used to unwind a Roth conversion.
- More Flexibility for 529 Savings Accounts. Under pre-Act law, funds in a Code Section 529 college savings account could only be used for qualified higher education expenses and nonqualified withdrawals were subject to a 10% additional tax. The new Act expands the use of 529 accounts to allow withdrawals for elementary or secondary schools. This provision will allow individuals to withdraw up to $10,000 per year for tuition at an elementary or secondary public, private, or religious school. The Act also provides the ability to rollover a 529 plan to an ABLE account (a tax-advantaged savings account for individuals with disabilities and their families) if the rollover is made within 60 days of the distribution.
- Disaster Relief Through Eligible Retirement Plans. After the call for relief due to an uptick in natural disasters, the Act allows 401(k) plans and other eligible retirement plans to make “qualified 2016 disaster distributions” of up to $100,000 per individual prior to January 1, 2018, to victims of federally-declared major disasters occurring in 2016. The distributions will not be subject to the 10% excise tax on early distributions and can be included in income ratably over three years. All or part of the distributions can be repaid to a qualifying plan if the repayment occurs during the three-year period.
- New Measure of Inflation. Tax bracket amounts, standard deduction amounts, personal exemptions, and various other tax figures are annually adjusted to reflect inflation. Rather than using the Consumer Price Index for All Urban Consumers or “CPI-U” in order to make inflation adjustments to certain amounts, including benefit-related amounts, the new Act provides that inflation adjustments will be made using the Chained Consumer Price Index for All Urban Consumers or “C-CPI-U”. This index usually increases at a lower rate, resulting in smaller annual increases to certain benefit limits, such as HSA and FSA contributions.
If you have questions or concerns regarding the impact of tax reform on your benefit programs, please do not hesitate to contact one of our employee benefits attorneys for assistance.