Mid-pandemic, is it time for you and your company to benefit from Code Section 139?
In Q3, 2020 some – but not all - loyal and hard-working employees are experiencing financial challenges as a direct result of the COVID-19 pandemic.
Some – but not all – employers are weathering the storm comfortably due to a pre-pandemic healthy cash reserve position and/or alignment with a business sector with in-demand mid-pandemic products / services. The majority of those that are are looking for ways simple, convenient, and effective ways to help employees get through these difficult times. But how?
For many, taking advantage of Code Section 139 may be the win-win solution. Code Section 139 is a flexible and convenient way for employers to provide fully deductible tax-free income to employees with COVID-19 related expenses with little if any administrative burden.
If you are an employer intrigued to learn more or an employee that believes your employer should evaluate taking advantage of Code Section 139 reach out for more information and to get our conversation started.
What is Code Section 139?
Generally, Section 139 allows companies and other persons to make payments (known as “qualified disaster relief payments”) on a tax-free basis to, or for the benefit of, employees affected by a federally declared disaster.
Absent Section 139, any payment provided by a company to an employee would be included as gross income to the employee, unless the payment qualifies for another exclusion under the Internal Revenue Code, such as a working condition fringe benefit.
Qualified disaster relief payments under Section 139 include, among other things, any reimbursement or payment of reasonable and necessary personal, family, living or funeral expenses incurred as a result of a qualified disaster.
Does the COVID-19 pandemic qualify as a disaster, triggering Section 139 relief?
Yes. On March 13, 2020, President Trump issued an emergency declaration for the ongoing COVID-19 pandemic. The IRS also confirmed that the COVID-19 pandemic qualifies for relief under Section 139.
What types of expenses can a company reimburse or pay for under Section 139?
Generally, qualified disaster relief payments under Section 139 can be for the reimbursement or direct payment of any “reasonable and necessary” expenses incurred by employees as a result of the COVID-19 pandemic, whether or not the expenses were incurred in relation to work.
While the IRS has not issued specific guidance on what might constitute “reasonable and necessary” expenses in a pandemic, some potential expenses covered by Section 139 in the current COVID-19 environment include:
Costs associated with establishing a home office
Medical expenses related to COVID-19 and not covered by insurance
Dependent care expenses incurred due to closure of schools, etc.
Costs associated with alternative forms of commuting due to mass transit being unavailable, impractical or unsafe
Costs to purchase personal protective equipment (PPE), such as face coverings and gloves
Housing costs incurred as a result of isolation or quarantine arrangements; and
Funeral expenses of employees or their family members who pass away due to COVID-19
What types of payments are not eligible for relief under Section 139?
While Section 139 provides a flexible way to pay or reimburse employees for a wide variety of COVID-19- related expenses, companies should note that Section 139 will not cover the following types of payments:
Payments that are intended to replace wages
Payments for expenses that are not considered reasonable or
Payments that are reimbursed or compensated for by insurance
Will payments under Section 139 be subject to federal income tax?
No. Qualified disaster relief payments disbursed to employees under Section 139 are not included in the employee’s gross income and are thus not subject to federal income tax. Further, they are not subject to FICA or FUTA and are not reportable on Form W-2 or Form 1099.
Will payments under Section 139 be subject to state income tax?
It depends. While each state’s tax system is different, many states that impose taxes on an individual’s income will not include Section 139 payments as gross income.
California recognizes Section 139 treatment for qualified disaster relief payments made by employers. Such payments will not be subject to the California personal income tax withholding and will not be reported as income in the recipient’s adjusted gross income for state income tax purposes.
Will companies be able to deduct payments made under Section 139?
Yes. While qualified disaster relief payments will not be considered gross income to the receiving employee, such payments will be fully deductible by the employer, and, as such, they offer the best of both worlds for employees and employers from a tax perspective.
Is there a limit to the amount of assistance companies may provide to employees under Section 139?
No. There is no maximum dollar amount for qualified disaster relief payments that a company may provide under Section 139. However, for business and budgetary reasons, companies may wish to impose internal limits on the types and amounts of COVID-19-related expenses that may be paid for or reimbursed.
Are there coverage and non-discrimination requirements under Section 139?
No. Unlike some other employee benefits, which must satisfy certain coverage and non-discrimination requirements in order to qualify for favorable tax treatment, payments under Section 139 are not subject to such requirements.
Are there any administrative or substantiation requirements that an individual must satisfy in order to receive qualified disaster relief payments?
Generally, no. The IRS has previously issued guidance that, due to the circumstances surrounding a disaster, there is no need for individuals to account for actual expenses in order to qualify for the Section 139 exclusion, provided that the amount of the qualified disaster relief payments can be reasonably expected to be commensurate with the expenses incurred. Thus, the IRS does not require individuals to account for such expenses.
However, the COVID-19 pandemic represents a unique qualified disaster that may challenge our current understanding of Section 139 relief. The COVID-19 pandemic will likely be longer-lasting and may involve expenses of a magnitude not previously contemplated. Thus, best practices may be to account for expenses to the extent practicable, in case their qualification under Section 139 is questioned by the IRS in the future.
In addition, companies may wish to consider requesting documentation substantiating Section 139-related payments to ensure that expenses are reasonable and necessary and have been incurred as a result of COVID-19.
The nonrestrictive nature of Section 139 gives companies the flexibility to craft their own program and set their own parameters, and the existing and potential future tax benefits of Section 139 payments should also help reduce the effective cost of such program.
Deployed effectively, Section 139 could be a win for both employers and employees.
If we can assist you better understand Code Section 139 as it applies to you and/or your company reach out to get our conversation started.
This communication, which we believe may be of interest to our clients and friends of the firm, is for general information only and not designed to be advice for any specific individual or company.