This issue snapshot provides an explanation of the basic components of spousal travel and when it is considered taxable compensation to the employee or can be excluded from wages as a working condition fringe benefit. It also explains when spousal travel is deductible. IRC sections and Treas. regulations IRC Section 132(a)(3)—Working condition fringe benefit excluded from gross income IRC Section 274(d) – Substantiation requirements to claim deductions for travel expenses IRC Section 274(m)(3) – Limitations on deduction for travel expenses paid or incurred with respect to a spouse, dependent or other individual accompanying the taxpayer Treas. Reg. 1.132-5(t) – Working condition Fringes Treas. Reg. 1.61-21(a)(4) – Taxation of fringe benefits Treas. Reg. 1.162-2(c) – Bona Fide Business Purpose Required for Expenses of Spouse’s Travel to be Deductible Treas. Reg. 1.274–2 – Disallowance of deductions for certain expenses for entertainment, amusement, recreation, or travel Treas. Reg. 1.274-5T – Substantiation requirements (temporary) Resources (Court cases, Chief Counsel Advice, Revenue Rulings, internal resources) Meridian Wood Products Co. v. United States, 725 F.2d 1183 (9th Cir. 1984). Danville Plywood Corporation v. United States, 899 F.2d 3 (Fed. Cir. 1990) Rev. Rul. 55-57, 1995-1 C.B. 315 Rev. Rul. 56-168, 1956-1 C.B. 93 Rev. Rul. 79-425, 1979-2 C.B. 81 - Personal vs. business purpose (including spousal travel) Publication 15 – (Circular E), Employer’s Tax Guide Publication 463 – Travel, Gift, and Car Expenses Analysis Income and wage inclusion When traveling on business, some employees may bring their spouse. If an employer provides property or services to an employee relating to the spousal travel or pays for the travel expenses on behalf of the spouse or other non-employees directly, the value of such travel may be includable in the employee’s wages. In general, a taxable fringe benefit is included in the income of the person performing the services, even though that person may not have been the direct recipient of the benefit. For example, if a fringe benefit is provided to an employee’s spouse it is considered as provided to the employee and is included in the employee’s wages because a fringe benefit that is provided in connection with the provision of services is considered compensation for those services. Treas. Reg. 1.61-21(a)(4) An exception to the general rule is when spousal travel is excludible from gross income as a working condition fringe benefit pursuant to IRC Section 132. The amount will qualify for exclusion as a working condition fringe benefit if: Such expense otherwise qualifies for deduction by the employee under IRC Section 162(a); It can be adequately shown that the spousal travel has a bona fide business purpose and The employee substantiates the travel. See Treas. Reg. 1.132-5(t). If at the time a fringe benefit is provided it is reasonable for an employer to believe that the employee will be able to exclude the benefit from income under IRC Section 132 as a working condition fringe, the benefit is excludable from wages for purposes of Federal income tax withholding (FITW), Federal Insurance Contributions Act (FICA) tax and Federal Unemployment Tax Act (FUTA) tax. IRC Sections 3121(a)(20), 3306(b)(16), and 3401(a)(19). Any nonexcludable benefit or portion thereof is wages subject to employment taxes and must be reported on Form W-2, Wage and Tax Statement. Deduction disallowance Treas. Reg. 1.162-2(c) provides that where a taxpayer’s spouse accompanies the taxpayer on a business trip, the travel expenses will not be deductible unless the spouse’s presence on the trip has a bona fide business purpose. IRC Section 274 generally disallows certain types of expenses. However, IRC Section 274(e)(2) provides an exception for certain expenses treated as compensation. IRC Section 274(m)(3) provides that no deduction is allowed for travel expenses paid or incurred with respect to a spouse, dependent, or other individual accompanying an employee on business travel, including officers or employees, unless all three of the following conditions are met: The spouse, dependent, or other individual is an employee of the employer; The travel of the spouse, dependent, or other individual is for a bona fide business purpose and; Such expenses would otherwise be deductible by the spouse, dependent or other individual. In addition, the limitations in IRC Section 274(m)(3) do not apply if the employer treats the amount paid for spousal travel as compensation under IRC Section 274(e)(2). In this situation, the amount paid or incurred for the spousal travel is deductible by the employer as compensation under IRC Section 274(e)(2) and no amount may be excluded from the employee’s gross income as a working condition fringe. Treas. Reg. 1.132-5(t)(1) and 1.274-2(f)(2)(iii)(A). Issue indicators or audit tips Minutes of board and committee meetings – Minutes of these meetings may disclose trips (e.g., conventions) that the organization paid for its employees. The examiner should verify the purpose of the trips and determine whether the organization paid for spouses/family members to accompany employees on these trips. General ledger accounts – In-kind benefits and reimbursements provided to employees for travel and entertainment can be found in general ledger accounts. An in-kind benefit is defined as any non-cash benefit of monetary value provided by an employer to an employee. For example, a company car provided to a spouse of an employee. Disbursements journal or accounts payable ledger – Limiting the review to specific general ledger accounts may overlook all payments to employees. The organization’s disbursements journal or accounts payable ledger should also be reviewed to identify in-kind benefits provided to employees. Employee contracts – Employee contracts may contain provisions related to in-kind benefits provided for spousal travel. Does the employer pay for employee spouses’ travel? Examination of airfare expenses paid to an employee may identify spousal travel. If an employer provides for an employee’s travel and purchases two or more airline tickets for one business trip, the examiner should determine who accompanied the employee on the trip. Note that some taxpayers mistakenly believe that if they do not deduct expenses for spousal travel, it is not includable in wages. Was the purpose of the travel primarily business or personal? Identifying whether travel is primarily for business or personal reasons can be difficult. The examiner should be aware of the locations where the taxpayer normally conducts business. Travel to resort areas may indicate that it was for personal reasons. Careful examination of expense reports may also uncover potentially personal travel. Expense reports showing in-kind benefits for the employee’s family may indicate that the employee was not away primarily for business.
