When it comes to incentive and recognition programs, the tax laws can be challenging to say the least. While no one likes to tell program guests that they’ll be hit with the taxes for their reward at the end of the year, it is important to understand the tax implications.
The cost of an incentive program is deductible for the organization, but the value of the reward is taxable for participants. In fact, even when there is a meaningful meeting agenda, there may be tax liabilities for winners who bring spouses.
Here are a few things to keep in mind:
Tax laws change constantly and you don’t want to fail to comply with the law or take the risk of leaving your guests with an unanticipated tax bill. Seek out the right advice in your own organization before you get started planning the program, and certainly before you nail down your budget.
The document your legal team and accountants will be referring to is the Internal Revenue Service’s “Employers Supplemental Tax Guide, Publication 15-A.” Most incentive information is currently covered in a section called “Employee Achievement Awards.” The most recent publication states:
“To be excludable from your employee’s gross income, the award must be tangible personal property given to an employee for length of service or safety achievement, awarded as part of a meaningful presentation, and awarded under circumstances that do not indicate that the payment is disguised as compensation.”
“To be exempt, Tangible personal property awards cannot be in the form of cash, check, credit/debit cards, gift certificates, meals, lodging, event tickets, and stock certificates or other securities.”
In plain English, this means that the value of incentives – including travel programs – is typically considered part of the employee’s personal income.
The costs of incentive travel programs can be deductible for your company as a business expense, as long as the IRS doesn’t consider the award to be too “over the top” relative to the incentive program results.
Employees – including independent contractors - however, are taxed on the Fair Market Value (or FMV) of the experience. If you are working with a third party planner, they should be able to provide this number to you. This represents the actual value of the trip, without other mark-ups, handling fees, and costs for staffing, communication materials, and other peripheral expenses. The program participant should receive a W-2 for that amount.
And don’t forget the spouses! The value of their trip is also taxable as part of the recipient’s compensation.
The rules for channel programs have an additional modifier. If the reward is given to a company (not a proprietorship or partnership), it is not taxable for the individual as income. If it is awarded to an independent agent, however, it is taxable, just as if they were an employee.
Tax attorneys may have differing opinions on taxation of senior executives who have not “earned” the incentive, but must attend as hosts – another reason to consult a professional advisor.
Merchandise that is part of your travel program should also be considered. If they have an FMV of more than $75, they are also taxable as income. It’s something to keep in mind when your program sponsors are choosing that final night room gift.
There’s a rumor out there that your participants don’t have to pay taxes, if you just hold a meeting as part of your incentive program. This is not necessarily the case.
It’s an extremely gray area. The IRS has not released any clear definitions of how much meeting time is enough to qualify the program as a meeting, rather than an incentive program. Unfortunately, that leaves this issue open to interpretation, but it is generally accepted that, if the rules make it clear that this is a reward that must be earned, the IRS takes a dim view of what they perceive to be “smokescreen” meetings.
If you are going to claim your event as a meeting, you should have a serious intention to do so by creating a meaningful agenda. But keep in mind that people are not going to push themselves too hard for a trip where they spend half their waking hours in meetings. The FMV cost of the spouse portion of the trip would still be considered taxable.
Once you know what’s taxable, the next question should be: who’s paying? Since the intention of an incentive program is to reward the recipient with a great experience, many organizations choose to “gross up” by contributing additional money in the form of payroll tax withholding to off-set the tax liability.
This increases the overall program budget, but provides incentive program winners with the full value of the experience minus the sting of a tax bill at the end.
This only works for employees, though, as there’s no way to adjust the payroll of channel partners.
Because of the complexity of the tax laws surrounding incentives and compensation, it can be challenging – and risky – to even establish the most basic assumptions.
Take the time to discuss the tax implications with your internal legal and accounting team, as well as what that means for your budget. It’s worth considering your unique program, your audience, and the potential ramifications for your company.
As Vice President of Travel & Engagement at Next Level Performance, Susan serves on the board of the Incentive Research Foundation (IRF), and chairs the IRF Research Committee. She has also served on the board of the Incentive Marketing Association (IMA) and is a past president of the Recognition Council, and a past member of the Performance Improvement Council and the Incentive and Engagement Solution Providers (IESP). She is interested in the strategies and benefits of employee engagement, incentive, and recognition programs. An avid traveler, she is also passionate about the art and science of incentive travel.