Understanding Taxable Fringe Benefits: Detailed Breakdown

Fringe benefits are a form of compensation employers offer in addition to regular wages. They’re often included in compensation packages to attract talent and support retention efforts. But beyond being an attractive perk, these benefits may come with additional admin.

The Internal Revenue Service (IRS) taxes fringe benefits, except those the law specifically excludes. And those exclusions affect your payroll processing, tax withholding, and reporting.

In this guide, you’ll learn what fringe benefits are and which fringe benefits are taxable. For complete guidance, review the IRS resource Publication 15-B(opens in a new tab), Employer’s Tax Guide to Fringe Benefits. 

Are Fringe Benefits Taxable? 

Yes, generally. All fringe benefits are taxed, in part or in full, with the exception of those the Internal Revenue Code(opens in a new tab) excludes.

There are conditions that determine how—and to what extent—a fringe benefit is taxed. In other words, a fringe benefit may be taxable in one context and excluded in another. 

To help put this into perspective, here’s a side-by-side look at several conditions that shape tax treatment:

*Select conditions only. Refer to Publication 15-B for all conditions. 

For further information on how fringe benefits are taxed, refer to the IRS’s Publication 15-B(opens in a new tab). The IRS updates this guide annually, so make sure you’re checking in with the latest edition. 

Which Fringe Benefits Are Tax-Exempt?

According to Publication 15-B, there are 19 types of tax-exempt fringe benefits. All of part of the benefit’s value may be excluded, depending on the situation.

Here’s a small sample of the 19:

• De minimis benefits: Property or services of little value. Their low value makes accounting for them impractical. Office snacks are a common example. 

• Achievement awards: Tangible personal property an employer awards an employee for length of service or safety achievement. This might look like a watch or dress shirt.

• No-additional-cost services: Services provided to employees, at no substantial additional cost, that the employer offers in its ordinary line of business. For instance, an airline may offer free or reduced-price airline tickets to staff.

Conditions shape the tax treatment of each fringe benefit. For example, all fringe benefits that qualify as de minimis are exempt, in full. Achievement awards, however, are tax-exempt up to $1,600 annually per employee (under a qualified plan). This is why employers need to assess taxation on a benefit-by-benefit basis. 

Additionally, a fringe benefit may be excluded from one employment tax but subject to another. These include income tax withholding, Social Security and Medicare, and federal unemployment. 

Take adoption assistance, for example. Qualifying adoption assistance can be exempt from federal income tax withholding. However, it may remain subject to Social Security, Medicare, and FUTA taxes. 

Insight: If a fringe benefit is not mentioned in the tax code or IRS guidance, employers should avoid assuming it’s tax-exempt. These guides typically only cover benefits that may qualify for an exclusion. A fringe benefit with no exclusion, mentioned or not, is taxable by default.

Calculating the Taxable Value of a Fringe Benefit

Once you know where all your benefits sit, you need to determine their value. You can calculate the taxable value of a fringe benefit with this formula: 

Taxable value = fair market value - (amount the employee paid + amount excluded by law).

Fair market value (FMV) is the amount an employee would pay a third party to buy or lease the benefit. 

Here’s an example of this calculation in practice. Suppose an employer provides qualified parking worth $500 per month (FMV), and the employee covers $100 of the benefit. The law excludes up to $340 a month for qualified parking*. 

Plug these numbers into the equation: Taxable value = $500 - ($100 + $340) = $60, added to the employee’s wages. 

*This is a hypothetical example. Applicable valuation rules and exclusions may affect the taxable value. 

How Are Taxable Fringe Benefits Withheld and Reported?

For employees, employers report taxable benefits on Form W-2. The exact amounts withheld depend on what type of fringe benefit it is and which exclusion rules apply. 

The IRS allows two methods for withholding income tax on taxable fringe benefits:

• Aggregate method: Add the fringe benefit’s taxable value to regular wages, and calculate withholding on the combined amount. 

• Percentage method: Withhold federal income tax on the fringe benefit’s taxable value at the flat supplemental wage rate of 22%. 22% rises to 37% if an employee’s supplemental wages (which include fringe benefits) exceed $1 million in a calendar year.

Both methods apply to federal income tax withholding only. Separate rules apply to Social Security, Medicare, and FUTA taxes.

Businesses don’t withhold taxes on fringe benefits for non-employees, like independent contractors and partners, but must still report the taxes. The following table helps put this into perspective:

Offer Customizable Fringe Benefit Packages with Ease

Offering fringe benefits is a practical way of caring for your team and strengthening your business’s culture, but they’re a lot to manage. Justworks PEO services make offering competitive benefits easy. 

Justworks lets you build a custom benefits package that fits your team, and adjust it as your needs change. The Water Project had to manage unique employee benefits for a diverse workforce. Justworks gave them the tools to support different packages, regardless of location and age. Dan Kim, Director of Operations at The Water Project, wrote about his experience:

“One of the things we value here at The Water Project is taking care of our employees. I felt like by moving to Justworks [PEO], we were able to do the right thing for the employees and the organization. It was a win-win.”

Beyond benefits packages, Justworks provides the payroll, administration, and HR support to help your team manage the process.

Ready to explore Justworks PEO? Get started today. 

FAQ

Can Independent Contractors Receive Taxable Fringe Benefits? 

Yes, independent contractors can receive taxable fringe benefits and are responsible for paying the applicable taxes. Businesses must report these benefits, generally on Form 1099-NEC. 

Does the IRS Define Fringe Benefits?

Yes, Publication 15-B defines fringe benefits as a form of pay for the performance of services. It lists many types of benefits, sorting them into taxable and tax-exempt types. If any benefits aren’t listed on Publication 15-B, they’re automatically considered taxable. 

What Are Common Fringe Benefits Examples?

Common fringe benefits include:

• Health insurance

• Educational assistance

• Group-term life insurance

• Employee stock options

• Retirement plan contributions

When Should Employers Include Taxable Fringe Benefits in Payroll?

At least once per year. Employers may choose per pay period, quarterly, semiannually, or annually.

What Are Examples of Non-Taxable Fringe Benefits?

Publication 15-B provides a list of 19 that may qualify for tax exclusions, like athletic facility access, employee discounts, and meals. Section two of this guide lays out the full list. All fringe benefits are subject to conditions that shape whether (and to what extent) they’re taxable. 

Can Fringe Benefit Tax Treatment Change From Year to Year?

Yes, fringe benefit tax treatment can change year over year. Multiple factors can influence these changes, including inflation and the introduction of new legislation. Certain tax parameters are routinely adjusted annually.