IRS issues guidance on retroactive transit benefits

The IRS has issued guidance related to Section 103 of the Tax Increase Prevention Act of 2014 (TIPA) (Pub. L. 113-295), which increased the monthly transit benefit exclusion under Code Sec. 132(f)(2)(A) from $130 per participating employee to $250 per participating employee for the period of January 1, 2014, through December 31, 2014 (see WK Payroll Management Guide Report Letter 2386, dated December 30, 2014). To address employers’ questions regarding the retroactive application of the increased exclusion for 2014 and to reduce filing and reporting burdens, the IRS is clarifying how the increase applies for 2014 and is providing a special administrative procedure for employers to use in filing Form 941, Employer’s QUARTERLY Federal Tax Return, for the fourth quarter of 2014 to reflect changes in the excludable amount for transit benefits provided in all quarters of 2014 and in filing Forms W-2, Wage and Tax Statement.

The situation occurred once before when the American Taxpayer Relief Act of 2012 (P.L. 112-240) was signed into law (see http://www.irs.gov/Businesses/Small-Businesses-&-Self-mployed/Retroactive-Increase-in-Excludible-Transit-Benefits).
Due to the retroactive effect of that provision, the IRS issued guidance: an IRS Notice 2013-8, IRB 2013, IRB 2013-7, February 4, 2013, and an IRS e-mail communication, January 23, 2013 (see WK Payroll Management Guide Report Letters 1384/2287 and 2288, dated January 22 and January 29, respectively).

Background

Prior to enactment of TIPA, the adjusted maximum monthly excludable amount for 2014 for the aggregate of transportation in a commuter highway vehicle and any transit pass was $130 and the adjusted maximum monthly excludable amount for qualified parking was $250. Amounts that are excluded from gross income under Code Sec. 132 are also excluded from Federal Insurance Contributions Act (FICA) taxes (social security and medicare, including additional medicare Tax) and federal income tax withholding.

Corrections, refunds

Generally, corrections of overpayments of FICA tax are made after an error has been ascertained using the adjustment process in the law under Code Sec. 6413 or using the refund claim process under Code Sec. 6402.

An error is ascertained when the employer has sufficient knowledge of the error to be able to correct it. Before making an adjustment of an overpayment of FICA tax, an employer generally must repay or reimburse its employee in the amount of the overcollection prior to the expiration of the period of limitations on credit or refund, and, for FICA tax overcollected in a prior year (other than additional medicare tax), must also secure the employee’s written statement confirming that the employee has not made any previous claims (or the claims were rejected) and will not make any future claims for refund or credit of the amount of the overcollected FICA tax.

An employer repays the employee by direct payment to the employee and reimburses an employee by applying the amount of the overcollection against the employee FICA tax which attaches to wages paid by the employer to the employee. Withheld additional medicare tax can only be repaid or reimbursed and subsequently adjusted during the same calendar year in which it is withheld. Employers cannot adjust overpayments of withheld income tax after the end of the calendar year. Rather, the withheld additional medicare tax and the withheld income tax are applied against the taxes shown on the employee’s individual income tax return (for example, Form 1040, U.S. Individual Income Tax Return) and any excess will be refunded to the employee.

An employer has a duty to assure that its employee’s rights to recover overcollected taxes are protected by repaying or reimbursing overcollected amounts. Alternatively, an employer may obtain the employee’s consent to the filing of the refund claim. No refund to the employer is permitted with regard to additional medicare tax which the employer deducted or withheld from the employee. Similarly, no refund to the employer is allowed for the overpayment of withheld income tax which the employer deducted or withheld from an employee.

To make employment tax corrections for overpayments (that is, to make adjustments or to claim refunds), an employer uses the “X” form that corresponds to the return being corrected. Thus, an employer corrects overreported taxes on a previously filed Form 941 by filing Form 941-X, Adjusted Employer’s QUARTERLY Federal Tax Return or Claim for Refund. A separate X form must be filed for each taxable period.

Retroactive application

Transit benefits provided during 2014 by an employer to an employee in excess of $130 (the former maximum monthly excludable amount) up to $250 (the amended maximum monthly excludable amount) are excluded from the employee’s gross income and wages. The amounts over the limits are “excess transit benefits.” The exclusion applies whether the employer provided the transit benefits in 2014 out of its own funds or whether the transit benefits were provided during 2014 through compensation reduction arrangements as permitted by law. The law does not mandate that employers provide additional transit benefits to their employees for 2014. Employees may not retroactively increase their compensation reduction for 2014 to take advantage of the increase in the excludable amount for transit benefits in 2014. In addition, employees may not reduce their compensation by more than $130 per month in 2015 (the applicable statutory monthly limit for 2015) in order to receive any permissible reimbursement for transit benefits incurred in 2014.

Special administrative procedure–Form 941 not already filed

Employers who originally reported excess transit benefits as includible in gross income and wages and withheld income taxes and FICA taxes would normally be required to file Form 941-X for each quarter to make corrections.

Due to the timing of the statutory change and the due dates for Forms 941 for the fourth quarter of 2014 and Forms W-2, and in order to reduce administrative burden, the IRS is providing a special administrative procedure for employers who treated excess transit benefits as wages and who have not yet filed their fourth quarter Form 941 for 2014. Employers who desire to use the special administrative procedure must repay or reimburse the employees for the overcollected FICA tax (including any additional medicare tax) on the excess transit benefits for all four quarters of 2014 on or before filing the fourth quarter Form 941. The employer, in reporting amounts on its fourth quarter Form 941, may reduce the fourth quarter: Wages, tips and compensation reported on Line 2; Taxable social security wages reported on Line 5a; Taxable medicare wages and tips reported on Line 5c; and Taxable wages and tips subject to additional medicare tax withholding reported on Line 5d, by the excess transit benefits for all four quarters of 2014. By taking advantage of the special procedure, employers will avoid having to file Forms 941-X, and will also avoid having to file Forms W-2c.

The procedure can only be used to the extent that employers have repaid or reimbursed their employees for the employee share of FICA tax attributable to the excess transit benefits. Employers may only correct the employer share of FICA tax if the employees’ share of FICA tax has been repaid or reimbursed to the employees. Employers using the special procedure do not need to obtain written statements from their employees confirming, for each employee, that the employee did not make a claim (or if the employee did make a claim, the claim was rejected) and will not make a claim for refund of FICA tax overcollected in a prior year.

The repayment or reimbursement of overwithheld social security tax and the corresponding reduction for wages reported on Form 941, line 5a, Taxable social security wages, must take into account that refunds or credits of social security tax are limited to the amount paid on that portion of the excess transit benefits that, when added to other wages for the year, did not exceed the social security wage base for 2014 ($117,000).

To ensure that a mismatch does not result between the total taxes reported on Form 941, line 10, Total taxes after adjustments, and the Total liability for the quarter reported on Form 941, Line 14 (for a monthly schedule depositor) or Schedule B (Form 941) (for a semiweekly schedule depositor), an employer should reduce the last liability of the quarter reported (that is, Month 3 on line 14 or the last liability entry on Schedule B) by the amount of the tax reduction due to use of the special procedure. If the amount of the tax reduction exceeds the last liability of the quarter reported on line 14 or Schedule B, the employer should apply the amount of the tax reduction to reduce previous liabilities in reverse order until the amount of the tax reduction is completely used. Note that, negative numbers must not be entered on Line 14 or Schedule B.

Normal procedure–Form 941 already filed

Employers that have already filed the fourth quarter Form 941 must use Form 941-X to make an adjustment or claim a refund for any quarter in 2014 with regard to the overpayment of tax on the excess transit benefits after repaying or reimbursing the employees or, for claims for refund, securing consents from their employees. Similarly, to the extent employers have not repaid or reimbursed their employees who received excess transit benefits in 2014 prior to filing the fourth quarter Form 941, the employers must use Form 941-X to make an adjustment or claim for refund with respect to the excess transit benefits provided to those employees. Thus, the employer must obtain the required statements under the law. Furthermore, the employer may not repay or reimburse, make an adjustment with respect to, or seek a refund of additional medicare tax or income tax deducted or withheld from the employee in 2014.

Form W-2

Employers that paid excess transit benefits and have not furnished 2014 Forms W-2 to their employees must take into account the increased exclusion for transit benefits in calculating the amount of wages reported in Box 1, Wages, tips, other compensation; Box 3, Social security wages; and Box 5, Medicare wages and tips. Employers that have repaid or reimbursed their employees for the overcollected FICA taxes prior to furnishing Form W-2 must reduce the amounts of withheld tax reported in Box 4, Social security tax withheld, and Box 6, Medicare tax withheld, by the amounts of the repayments or reimbursements.

Note that under the normal procedures, the amount reported in Box 6, Medicare tax withheld, will not be reduced with regard to any additional medicare tax withheld on the excess transit benefits because no repayment or reimbursement of such amount is permitted after the end of 2014. Employers must report in Box 2, the federal income tax withheld, that is, the amount of income tax actually withheld during 2014. Any additional income tax withholding will be applied against the taxes shown on the employee’s individual income tax return (Form 1040, U.S. Individual Income Tax Return).
Employers that repaid or reimbursed their employees for the overcollected FICA taxes after furnishing Forms W-2 to their employees but before filing Forms W-2 with the SSA must check the “Void” box at the top of each incorrect Form W-2 (Copy A). The employer must prepare new Forms W-2 with the correct information, and send these new Forms W-2 (Copy A) to the SSA. In addition, employers must write “CORRECTED” on the employees’ new copies (B, C, and 2) and furnish them to the employees. Employers that have already filed 2014 Forms W-2 with SSA must file Forms W-2c, Corrected Wage and Tax Statement, to take into account the increased exclusion for transit benefits and to reflect any repayments or reimbursements of the withheld FICA tax and must furnish copies of Form W-2c to the employees. (IRS Notice 2015-2, January 8, 2014.)

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