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Business Tax

Employer can’t exclude the value of free meals, but free snacks are de minimis fringes

Thomson Reuters Tax & Accounting  

Thomson Reuters Tax & Accounting  

PLR 201903017

A Technical Advice Memorandum (TAM) concludes that an employer can’t treat free employee meals as excludable under the Code Sec. 119 “convenience of the employer” test. The company couldn’t substantiate a link between general benefits, such as promoting collaboration and protecting business information, and a business necessity for giving employees free meals. Other goals, such as having employees available for business emergencies, weren’t sufficiently documented. However, the TAM does say snacks provided free to the tech company’s employees are excludable as de minimis fringes.

Background. An individual’s gross income generally includes compensation for services, including fringe benefits, subject to certain exceptions. (Code Sec. 61(a)(1)) One such exception is the value of any meals furnished by or on behalf of an individual’s employer, which are excludable if the meals are furnished on the employer’s business premises for the convenience of the employer. (Code Sec. 119(a))

Whether meals are furnished for the convenience of the employer is a question of fact to be determined based on the facts and circumstances of each case. (Reg § 1.119-1(a)(1)) Meals furnished by an employer without charge to the employee will be regarded as furnished for the convenience of the employer if such meals are furnished for a “substantial noncompensatory business reason” of the employer (Reg § 1.119-1(a)(2)(i)), such as because the employer’s business requires that the employee be restricted to a short meal period during which the employee couldn’t be expected to eat elsewhere (Reg § 1.119-1(a)(2)(ii)(b)) or the employee must be available for emergency calls during the meal period. (Reg § 1.119-1(a)(2)(ii)(a)) Under the regs, to meet the emergency calls criterion, the employer must show that emergencies have actually occurred, or can reasonably be expected to occur, in the employer’s business which have resulted, or will result, in the employer calling on the employee to perform his or her job during his meal period.

Meals are furnished for a substantial noncompensatory business reason of the employer if the meals are furnished to the employee during the employee’s working hours because the employee could not otherwise secure proper meals within a reasonable meal period (e.g., there are insufficient eating facilities in the vicinity of the employer’s premises). (Reg § 1.119-1(a)(2)(ii)(c))

In Kowalski, (S Ct 1977) 40 AFTR 2d 77-6128, the Supreme Court said the “convenience of the employer” rule under Code Sec. 119 (the “Kowalski test”) applies to employer-provided meals only if the meals are necessary for the employee to properly perform his or her duties.

In Boyd Gaming Corp (f/k/a The Boyd Group & Subsidiaries), (CA9 1999) 83 AFTR 2d 99-2354, acq. 1999-010, Aug. 10, 1999, which dealt with a casino operator that required its employees to eat in on-premises cafeterias, the Ninth Circuit determined that a substantial noncompensatory business reason requires a business nexus under which the employee must accept the meals in order properly to perform his or her duties. However, this business nexus does not require a link to an employee’s specific duties. The operator provided adequate evidence of legitimate business reasons for that policy, including security and efficiency concerns, maintaining work force control, handling business emergencies and continuous customer demands, and the impracticality of obtaining meals elsewhere within a reasonable proximity. Under these circumstances, it was not necessary for taxpayer to demonstrate that the particular duties of each of its various categories of workers were such as to require them to remain on the taxpayer’s premises throughout their shifts. The Court noted that it was “inappropriate” for IRS to second guess these reasons or to substitute a different business judgment. However, the Court also cautioned that the taxpayer was required to and did support its on-premises rule with adequate evidence of legitimate business reasons.

Under Code Sec. 119(b)(4), all meals furnished on the business premises of an employer to its employees are treated as furnished for the convenience of the employer—and therefore excludable from the employee’s income—if more than half of the employees to whom the meals are furnished on the premises are furnished the meals for the convenience of the employer.

Code Sec. 132(a)(4) excludes from gross income any de minimis fringe benefit. Under Code Sec. 132(e)(1), and Reg. § 1.132-6(a), a de minimis fringe benefit is any property or service the value of which is (after taking into account the frequency with which similar fringes are provided by the employer to the employer’s employees) so small as to make accounting for it unreasonable or administratively impracticable. Examples include coffee, doughnuts, and soft drinks and flowers, fruit, books, or similar property provided to employees under special circumstances (e.g., on account of illness, outstanding performance, or family crisis).

Under Code Sec. 132(e)(2), the operation by an employer of any eating facility for employees is a de minimis fringe if the facility is located on or near the business premises of the employer, and revenue derived from the facility normally equals or exceeds the direct operating costs of such facility. The regs say that “if an employer can reasonably determine the number of meals that are excludable from income by the recipient employees under section 119,” then it can “disregard all costs and revenues attributable to such meals provided to such employees.” (Reg. § 1.132-7(a)(2))

Code Sec. 3121(a)(19) excepts from the term “wages” for FICA tax purposes the value of any meals furnished by or on behalf of the employer if at the time of such furnishing it is “reasonable to believe” that the employee will be able to exclude such items from income under Code Sec. 119.

Facts. Although the TAM’s facts are heavily redacted, the taxpayer probably is a large technology company. It provided meals, without charge, to all employees, contractors, and visitors (meals were not available on the weekends). All employees were entitled to meals without distinction as to the employee’s position, specific job duties, ongoing responsibilities, external circumstances, or other facts and circumstances. In one area or location, meals were consumed at seating in or near snack areas, or at employee desks. In another area or location, meals were consumed in a cafeteria. The taxpayer also provided unlimited snacks and drinks in designated snack areas. Each of the snack areas had appliances such as mini-refrigerators, microwaves, toasters, and coffee machines.

There was no meal-length policy in place for salaried employees, but hourly employees got 30 minutes a day for a meal break. Employees in a group that was responsible for creation and expansion of ideas and innovations, and with responding to daily question, comments, etc., as well as those in a group that performed security services, routinely remained on site throughout their work day. The taxpayer’s informal observations not backed up by data indicated that employees spent about 15 to 25 minutes getting a meal on site before returning to their work spaces (closer to 10-15 minutes for employees who eat employer-provided meals at their desks). When longer periods of time were spent on meals, employees often sat together at lunch tables, working collaboratively on projects.

Employees in “job families” described in detail to IRS were involved in responding to what the taxpayer considered to be “emergencies.” The taxpayer provided IRS with a number of “declarations” from employees in various job families (e.g., networks and computer systems, managing risk and financial loss due to fraud) as to the expectation of their job position that they respond to, or be on call for, emergencies, the types of incidents that constituted emergencies, and that these incidents frequently occurred during meal periods. The taxpayer also provided IRS with its Policy and Procedures that describe the on-call policies, including the requirement of on-call employee for each team at any time, and that other team members and members of other teams, must be called upon if the nature of an incident requires the expertise of others. IRS also was given a table of the job families in each emergency response group, and the number of employees in each group.

There are restaurants and meal delivery services operating within an undefined radius of the taxpayer’s business. IRS was given statistics on crime occurring in the area where the taxpayer’s business is located, but there was no data provided on the usual time of day of crimes, effect of any criminal activity on other employers in the area and their employees, comparisons of these crime statistics to statistics for employment centers in other cities, or similar data linking the crime statistics to the ability of employees to obtain meals.

The taxpayer provided the following reasons for concluding that meals provided to employees were excludable under the Code Sec. 119 convenience of the employer rule:

(A) To foster collaboration and innovation by encouraging employees to stay on-premises;

(B) To protect the taxpayer’s confidential and proprietary information, including its intellectual property by providing a secure environment for business discussions on its premises;

(C) To protect employees due to unsafe conditions surrounding the taxpayer’s business premises;

(D) To provide healthy eating options for employees to improve employee health;

(E) Because employees cannot secure a meal within a reasonable meal period;

(F) Because the demands of the employees’ job functions allow them to take only a short meal break; and

G) To provide meals so that employees are available to handle emergencies that regularly occur.

The taxpayer didn’t provide details as to which employees were provided meals for each of these reasons, but rather asserted generally that meals provided for these reasons were provided to over half of its employees and therefore the meals can be considered provided to all employees for the convenience of the employer under Code Sec. 119(b)(4) and excludable under Code Sec. 119.

The taxpayer also excluded the value of the snacks provided to employees as a de minimis fringe benefit under Code Sec. 132(e).

The TAM addresses eleven issues.

Issue (1). For purposes of applying Code Sec. 119, does Boyd Gaming preclude IRS from substituting its judgment for the business decisions of Taxpayer as to: (1) the taxpayer’s business needs and/or concerns; and (2) what specific business policies or practices are best suited to addressing the taxpayer’s business needs and/or concerns?

TAM’s response. Boyd Gaming does preclude the IRS from substituting its judgment for the business decisions of a taxpayer as to its business needs and concerns and what specific business policies or practices are best suited to addressing these business needs and concerns. However, as IRS concluded last year in Legal Advice Issued by Associate Chief Counsel 2018-004, these cases do not prevent IRS from determining whether an employer actually follows and enforces its stated business policies and practices, and whether these policies and practices, and the needs and concerns they address, qualify as a substantial noncompensatory business reason for furnishing meals to employees within the meaning of the regs under Code Sec. 119 and the applicable judicial guidance.

The TAM doesn’t doubt the legitimacy of the taxpayer’s general business goals such as promoting collaboration and healthier employees, keeping employees safe, or protecting sensitive information and any related policies aimed at achieving these objectives. But the fact that these business goals are legitimate does not necessarily qualify them as substantial noncompensatory business reasons for furnishing meals to employees. The TAM points out that in several instances these goals are not much more than aspirations, since the taxpayer has no specific policies to implement them.

The TAM says specific employer policies are necessary to connect a business goal to the business necessity for furnishing meals to employees in order to achieve that goal. If, for a particular business goal, an employer does not have a related policy that governs how employees carry out their duties and how employer-provided meals are necessary to achieve the goals of the policy, then the employer will have great difficulty in demonstrating how furnishing meals to employees is necessary for the employees to carry out their job duties with regard to that business goal (as the Kowalski standard requires for excluding meals under Code Sec. 119). So while IRS cannot question an employer’s business goals and objectives, nor the employer’s policies aimed at achieving these goals and objectives, in examining whether meals are excludable under Code Sec. 119, in determining whether there is a noncompensatory business reason for providing the meals, IRS must determine whether a policy to carry out a goal or objective actually exists, and if so, whether employer-provided meals are necessary to achieve the goals of the policy.

Issue (2). Can the taxpayer satisfy its burden of proof, as a matter of law, to demonstrate that it has a substantial noncompensatory business reason for providing meals in the absence of written policies or tracking data?

TAM’s response. Taxpayers are responsible to provide substantiation when they claim exclusions from income. For employers that claim the exclusion from income and wages for meals furnished for the convenience of the employer, IRS has a responsibility to require substantiation from the employer concerning the business reasons the employer provides to support its claim of furnishing meals for the convenience of the employer. Specific business policies as substantial noncompensatory business reasons for furnishing meals to employees must exist in substance not just in form. They must be enforced on the specific employees for whom the employer claims these policies apply, and the taxpayer must demonstrate how these policies relate to the furnishing of meals to employees. After this substantiation is provided, IRS will then determine whether the policy qualifies as a substantial noncompensatory business reason for furnishing meals to employees.

The Code and regs don’t require a written policy, so other substantiation may be provided. For example, disciplinary records showing that employees have been disciplined for violating a policy or a record of requests for waivers from a policy for special circumstances would also serve as substantiation of an employer policy.

Issue (3). Is the ability of employees to bring food from home or have food delivered relevant to assessing whether there are insufficient eating facilities in the vicinity of the employer’s business premises pursuant to Reg. § 1.119-1(a)(2)(ii)(c)?

TAM’s response. Given the absence of bringing food from home as a factor in existing Code Sec. 119 “convenience of the employer” analysis, the TAM concludes that this option should not be a consideration in determining whether an employee “could not otherwise secure proper meals within a reasonable meal period” under Reg. § 1.119-1(a)(2)(ii)(c). But the TAM also declares that while the availability of meal delivery is not determinative in every analysis concerning Reg. § 1.119-1(a)(2)(ii)(c), especially where delivery options are limited, meal delivery should be a consideration in determining whether an employer qualifies under this reg and generally when evaluating other business reasons offered by employers as support for providing meals for the “convenience of the employer” under Code Sec. 119.

Issue (4). Is the value of meals excludable under Code Sec. 119 as furnished for the convenience of the employer, if the stated business reasons for furnishing the meals include the factors enumerated by the taxpayer at (A) through (G), above?

TAM’s response. None of the following qualified as a substantial noncompensatory business reason under the Code Sec. 199 regs, and meals furnished by the employer because of the following factors are not excludable:

(A) Protecting confidential and proprietary information, including intellectual property by providing a secure environment for business discussions on business premises. The taxpayer didn’t substantiate any link between this concern and a business necessity for furnishing meals to employees.

(B) Fostering collaboration and innovation by encouraging employees to stay on-premises. The taxpayer couldn’t show it had any policies related to these goals that would have required employer-provided meals in order for employees to properly perform their duties. It couldn’t substantiate any link between its general desire for innovation and collaboration and a business necessity for furnishing meals to employees.

(C) Concern for employee safety. The taxpayer provided little factual support to show that that its employees could not safely obtain meals off business premises under usual circumstances such that employer-provided meals were a necessity for employees to properly perform their duties. Also, there was no evidence of safety-related policies that required employer-provided meals in order for employees to properly perform their duties.

(D) Concern for employee health. There were no policies related to employee health that would have required employer-provided meals in order for employees to properly perform their duties. General goals and objectives of improving employee health don’t qualify as a substantial noncompensatory business reason.

(E) Inability to get a meal within a reasonable meal period. The taxpayer’s employees had access to many nearby eating facilities, and the facts didn’t show that employees’ ability to secure a proper meal within a reasonable period was significantly limited.

(F) The workload only allows for short meal breaks. The taxpayer had no policy for meal periods for salaried employees. It produced no substantiated evidence that employees actually took shortened meal breaks or that they did so due to the nature of the employer’s business, and provided no substantiated evidence or information showing how the nature of its business mandated a shortened meal period.

(G) Having to be around to handle emergencies that regularly occur. The employer did demonstrate, through policy documents and employee declarations, that (1) it had policies in place requiring certain to respond at unspecified times to incidents reasonably characterized as emergencies, and (2) certain employees were at times designated on-call to perform their jobs in response to these emergencies during their meal periods. Meals provided under these circumstances had a substantial noncompensatory business reason and are excludable, but because the taxpayer didn’t provide information on how many employees were on call during a typical lunch period, it couldn’t substantiate how many meals could be excluded for on-call employees.

Issue (5). Has the taxpayer satisfied Code Sec. 119(b)(4) by showing that at least half of its employees are furnished meals that are excludable under Code Sec. 119?

TAM’s response. The taxpayer hasn’t shown that at least half of all employees were furnished meals for the convenience of the employer. As a result, it didn’t satisfy Code Sec. 119(b)(4).

Issue (6). Is the value of meals furnished to employees excludable under Code Sec. 132(e)(2) and Reg. § 1.132-7?

TAM’s response. In the business location where meals were consumed at seating in or near snack areas, or at employee desks, the meals weren’t excludable under Code Sec. 132(e)(2) and Reg. § 1.132-7 because snack areas and employee desks don’t qualify as employer-operated “eating facilities,” which connotes facilities set aside to preparing and serving food. Meals served in a cafeteria at another business location of the taxpayer weren’t excludable, either. Because the taxpayer provides meals free of charge, it does not derive any revenue from its facility and therefore facility revenue does not meet or exceed operating costs as required by Code Sec. 132(e)(2). The taxpayer didn’t demonstrate that it met the requirement of Code Sec. 119(b)(4) such that all of its employees are considered provided meals for the convenience of the employer under Code Sec. 119 in order to have all employees treated as having paid amounts equal to the direct operating costs of the facility under Code Sec. 132(e)(2). As a result, the TAM concludes that the value of the meals the taxpayer furnishes to its employees in its eating facility is not excludable as a de minimis fringe benefit under Code Sec. 132(e)(2).

Issue (7). Is the value of snacks furnished to Taxpayer’s employees for the same business reasons provided for furnishing meals excludable from gross income under Code Sec. 119 as furnished for the convenience of the employer?

TAM’s response. The TAM cites Tougher, (1969) 51 TC 737, affd (1971, CA9) 27 AFTR 2d 71-1301, cert den, which dealt with the meals exclusion, for the proposition that the word “meals” connotes food that is prepared for consumption at such recognized occasions as breakfast, lunch, dinner, or supper, or the equivalent thereof. The TAM concludes that snacks provided to employees in designated snack areas weren’t meals prepared for consumption at a meal time and therefore did not qualify as meals provided for the convenience of the employer under Code Sec. 119.

Issue (8). Is the value of snacks furnished to employees excludable as a de minimis fringe benefit under Code Sec. 132(e)(1) and Reg. § 1.132-6?

TAM’s response. Generally, quantifying the value consumed by each employee of snacks that come in small, sometimes difficult to quantify portions and are stored in open-access areas is administratively impractical given the low value of each snack portion, even if the employer offers the snacks on a continual basis. As a result, the TAM concludes that the value of the snacks the taxpayer furnishes to its employees is excludable from gross income as a de minimis fringe benefit under Code Sec. 132(e)(1).

Issue (9). Do Taxpayer’s snack areas meet the regulatory definition of “eating facility” under Reg. § 1.132-7 so that the value of snacks furnished to employees are excludable from gross income under Code Sec. 132(e)(2) and the corresponding Reg. § 1.132-7? If not, are the snacks in these areas considered “meals” such that the value of the snacks must be determined using a special valuation rule in Reg. § 1.61-21(j)?

TAM’s response. Because Taxpayer’s snack areas are not eating facilities, the value of snacks furnished to employees in these areas are not excludable under Code Sec. 132(e)(2) (but they are excludable as de minimis fringes, see Issue (8), above). Since the snacks in the snack areas are not provided in an employer-operated eating facility, these snacks are not considered meals for which the value may be measured using the special valuation rule in Reg. § 1.61-21(j).

Issue (10). Is the value of meals and snacks furnished to employees excludable under Code Sec. 119 under the “reasonable belief test” – i.e., the taxpayer claims it was reasonable to believe that the value of the meals and snacks was excludable from income under one or more applicable statutory exemptions?

TAM’s response. An employer seeking to rely on the “reasonable belief” exclusion must demonstrate that its belief that the exclusion was applicable was objectively reasonable, based on an understanding of the law, related IRS guidance, and application of the statute in case law. With the exception of meals provided so that certain employees are available to respond to emergencies, the taxpayer didn’t show that its belief that its reasons for furnishing meals to its employees qualified such meals for the Code Sec. 199 exclusion was an objectively reasonable belief based on an understanding of the law, IRS guidance related to Code Sec. 119, and application of applicable case law.

Issue (11). If the value of the meals and snacks provided by the taxpayer to its employees is includible in the employees’ wages, how is the amount of employment taxes owed determined?

TAM’s response. The snack areas and employee desks used for consuming meals at one of the taxpayer’s locations do not qualify as eating facilities as defined in Reg. § 1.132-7, and therefore fair market value (FMV) must be used in determining the amount to include for meals furnished to employees at this location. For the meals provided at a cafeteria at another location, meals may be valued using FMV or the special methods provided in Reg. § 1.61-21(j).

References: For exclusion for meals furnished to employees, see FTC 2d/FIN ¶ H-1751United States Tax Reporter ¶ 1194. For the treatment of meals at employer-operated eating facilities as a de minimis fringe benefit, see FTC 2d/FIN ¶ H-1821United States Tax Reporter ¶ 1324.06.

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