The tax extenders legislation (formally called the “Tax Increase Prevention Act of 2014“) signed into law on December 17 included a one-year extension of “parity” for the limits on tax-exempt mass transit and parking benefits. The change retroactively increases the limit on pre-tax mass transit benefits, which means that it affects the information that must be reported on Form W-2 for 2014 (generally due January 31, 2015) and tax refunds are available.
Employers with transportation benefit programs should watch for guidance and consider adjustments that might be required before filing Form 941 for the fourth quarter and issuing Forms W-2 for 2014.
Section 132(f) of the Internal Revenue Code allows employees to exclude employer-provided transportation benefits from income, up to specified limits. Before the new legislation, the limit for 2014 was $130 per month for mass transit and $250 per month for parking. The limit for mass transit has now been increased to $250 (in parity with the limit for parking), retroactive to January 1, 2014. The change applies only for 2014: the monthly limit on pre-tax mass transit benefits for 2015 will go back to $130 unless the law is changed again.
As a result of this change, employers and employees are now entitled to refunds of employment and income taxes paid for certain mass transit benefits. For example, suppose an employee purchased $200 in mass transit passes each month through an employer’s plan. The first $130 each month would have been pre-tax, but the other $70 would have been purchased with after-tax dollars–after withholding for income and FICA taxes. Now that the limit has been increased to $250, the employee is eligible for a refund of income and FICA taxes on the last $70; and the employer is eligible for a refund of FICA taxes on the last $70.
We expect that the IRS will issue guidance on the refund process and employers’ obligations for W-2 reporting. We anticipate that the guidance will be similar to guidance that the IRS issued in 2013, the last time the mass transit limit was increased retroactively.
Under the 2013 guidance, employers were required to take the retroactive increase into account on Forms W-2 for the year of the change. An adjustment was needed for employees to get income tax refunds. In addition, employers had two options for recovering employment taxes:
- Option 1: Take Adjustment on Form 941 for Fourth Quarter. Under this option, an employer could recover overpaid employment taxes through an adjustment on its Form 941 for the fourth quarter (due January 31, 2015)–without the need to correct prior filings. To be eligible for this adjustment, employers first had to reimburse employees for their share of the overpaid employment taxes; employers would then recover both the employer’s share and the employee’s share.
- Option 2: File Corrective Returns for Prior Quarters. If an employer did not wish to advance the reimbursement to employees for their share of employment taxes, the only available option was to file a Form 941-X (a corrective return) for each prior quarter. Under this approach, the employer would have to request written statements from employees, consenting to the employer’s requesting a refund on their behalf and indicating that the employees would not seek refunds on their own. Again, the employer would recover both the employer’s share and the employee’s share of overpaid employment taxes; the employer would reimburse employees after the overpayment is recovered.
Update: The IRS issued the guidance on January 8, 2015. As expected, the guidance gives employers a choice between making an adjustment on Form 941 for the fourth quarter of 2014 and the employee’s Form W-2 for 2014, or filing corrective returns. To make an adjustment without filing a corrective return, the employer will first need to refund the employee’s share of overpaid employment taxes.