We often get questions from clients about imputed income – what is it? When do we report it? How do we calculate it?
For employee benefits purposes, imputed income is the fair market value (FMV) of benefits given to employees that are not part of salary or wages but should be taxed as part of their income. The intent is to ensure income taxes are applied to income whether it be in the form of salary/wages or non-monetary fringe benefits.
There are others, but the two most common examples are group term life and health care coverage for Domestic Partners.
Group term life is almost always paid for by the employer, and if it is, the cost associated with that coverage is subject to imputed income. The IRS (through IRC Section §79) provides an exclusion for the first $50,000 as well as any amount paid by the employee. It requires that the imputed cost of coverage in excess of $50,000 paid for by the employer be included in income for income tax purposes.
For Domestic Partners, the process is a little more involved. A Domestic Partner is not acknowledged as a federal tax dependent under IRC Section §105(b). That means any health care coverage provided to them as a dependent by an employer-sponsored group health plan is subject to imputed income.
To determine the amount of imputed income, you need to identify the FMV of the coverage provided and subtract any employee paid portion of premiums made on a post-tax basis. Employee contributions made on a pre-tax basis do not get subtracted. The reason for distinguishing between the two is post-tax contributions have already been taxed as income whereas pre-tax contributions have not.
The simplest way to identify FMV is to use the individual monthly rate (which can be referred to as full monthly rate or COBRA rate).
Example: Medical-Rx rates and employee contributions for ABC Co. are below:
- Single: monthly rate of $500, employee contribution of $200
- Couple: monthly rate of $1000, employee contribution of $400
- Employee + child(ren): monthly rate of $850, employee contribution of $340
- Family: monthly rate of $1300, employee contribution of $520
In this example, if ABC Co. were to add a Domestic Partner to the plan, and the employee’s contribution was made on a pre-tax basis, the imputed income would be $500 per month. The FMV is $500 even though the employee contributed $200. That amount was never taxed because it was taken on a pre-tax basis, so the full FMV is considered imputed income.
If the employee’s $200 contribution was made on a post-tax basis, we would deduct it from the FMV of $500 because it has already been taxed as income. The idea is not to tax the income twice.
This example should be followed for all plans considered “health plans” by the IRS such as medical-Rx, dental and vision care plans. There may be others so please be sure to ask your benefits consultant or accountant for guidance.
The IRS guidance on FMV is not clear. Our ERISA counsel suggests using the above method to determine imputed income. However, they believe using the “True Dependent Cost” value where you take the couple rate of $1000 and subtract the individual rate of $500 to get $500 is also acceptable. We find that some 4-tier rate structures don’t always assign a 2x value to the individual rate for couples – so it could result in a higher or lower amount. The best practice for you would be to find the calculation that works for you and be consistent with its application.
If you have questions about this post or other matters pertaining to employee benefits, give us a call at (866) 724-0008 or click the link below.