Eighty years ago, people went to work to earn a salary and not much else. These days, the trend has been to compensate workers with more fringe benefits, averaging about 19% of their compensation or 10 times the percentage in 1929. Today’s reality is that workers both in Hawaii and elsewhere in this country are receiving more and more nontaxable benefits, most of which are never reported to the tax authorities, except to the extent the employer deducts the cost of providing them.
According to “Revisiting the Taxation of Fringe Benefits,” by tax professors Jay Soled and Kathleen DeLaney Thomas, to be published next year in the Washington Law Review, today’s unreported fringe benefits fall into three major categories:
First, there are “customer loyalty programs” such as frequent-flier miles, rental car usage, hotel frequency stays, and office supply purchases. The employee takes a business trip, for example, and the frequent-flyer miles accumulate on the employee’s personal account. These programs date back to supermarket chains offering stamps to their repeat customers. Remember Royal Stamps and Gold Bond Stamps? Customers filled up their stamp books and then redeemed the books for prizes. There are in fact Hawaii general excise tax regulations on trading stamps, but it’s questionable whether they have been or can be applied to modern frequent flyer, hotel guest, or other affinity programs.
Second, there are mixed-use assets such as cellular phones and home Internet service. Employers either buy or subsidize devices or services, which employees use for business but also are allowed personal use. (Employees sometimes use business assets for personal use anyway – remember the news about State workers watching Netflix and Hulu on state computers?) This increasingly common practice reflects both developments in technology and growing demands on employees to be available 24/7.
Third, there are workplace lifestyle enhancements such as free lunches, massages, and dance classes. Such perks are commonplace in Silicon Valley. In Hawaii we now know, because of the recent tax fraud conviction of a prominent Honolulu businessman, that too much of these enhancements, such as $92,000 paid for massages that were all written off as business expenses, can be overkill with serious consequences such as time in a federal prison.
Certainly, it’s difficult to value many of these perks and people tend to hate it when the companies giving them try to do the right thing. In 2012, for example, Citibank offered potential customers frequent flier miles if they opened up new deposit accounts. It then followed up with a Form 1099 to report their value (2.5 cents per mile), and was rewarded with a class action lawsuit against it (which was still chugging along as of July of this year), as well as a letter from a U.S. Senator reprimanding it and asking it to stop. Even the IRS chose to stay out of the fray, writing in Announcement 2002-18 that it wouldn’t try to assess a taxpayer for failing to report personal use of frequent flier miles earned via business travel.
Ultimately, Soled and Thomas conclude, a tax system in which fringe benefits are given a free pass is not sustainable. If fringe benefits continue to go unreported, more and more employers will offer benefits instead of salaries, payroll tax revenues will decline, and governments will face the problem of how to make up the lost money. This is certainly food for thought for lawmakers who should take this problem seriously and begin to craft policy solutions that move toward neutral treatment of all compensation.