Proposed Regs Address TCJA Changes to Transportation & Commuting Expenses

(Parker Tax Publishing July 2020)

The IRS issued proposed regulations under Code Sec. 274 to reflect legislative changes made by the Tax Cuts and Jobs Act of 2017 which are effective for tax years beginning after December 31, 2017. The proposed regulations address the elimination of the deduction under Code Sec. 274 for expenses related to certain transportation and commuting benefits provided by employers to their employees and provide guidance on determining the amount of such expenses that is nondeductible as well as the application of certain exceptions under Code Sec. 274(e) that may allow such expenses to be deductible. REG-119307-19.

Background

Code Sec. 274 generally limits or disallows deductions for certain expenditures that otherwise would be allowable under Code Sec. 162(a) as ordinary and necessary expenses paid or incurred during the tax year in carrying on any trade or business.

The Tax Cuts and Jobs Act of 2017 (TCJA) amended Code Sec. 274 to disallow a deduction for the expense of any qualified transportation fringe (QTF) provided to an employee of the taxpayer, effective for amounts paid or incurred after December 31, 2017. QTFs are defined in Code Sec. 132(f)(1) to mean any of the following provided by an employer to an employee: (1) transportation in a commuter highway vehicle between the employee's residence and place of employment, (2) any transit pass, and (3) qualified parking. TCJA also added Code Sec. 274(l), which provides that no deduction is allowed for any expense incurred for providing any transportation, or any payment or reimbursement, to an employee of the taxpayer in connection with travel between the employee's residence and place of employment, except as necessary for ensuring the safety of the employee, effective for transportation and commuting expenses paid or incurred after December 31, 2017.

Code Sec. 274(e) enumerates nine specific exceptions to Code Sec. 274(a), three of which - Code Sec. 274(e)(2), (e)(7), and (e)(8) - are relevant for QTFs. Deductions for expenses that are within any of these three exceptions are not disallowed under Code Sec. 274(a)(4). Code Sec. 274(e)(2) applies to expenses for goods, services, and facilities, to the extent that the expenses are treated by the taxpayer as compensation and as wages to its employees. Code Sec. 274(e)(7) applies to expenses for goods, services, and facilities made available by the taxpayer to the general public. Code Sec. 274(e)(8) applies to expenses for goods or services (including the use of facilities) which are sold by the taxpayer in a bona fide transaction for an adequate and full consideration in money or money's worth.

Notice 2018-99

In Notice 2018-99, the IRS provided interim guidance for taxpayers to determine the amount of parking expenses for QTFs that is nondeductible under Code Sec. 274(a)(4). Under Notice 2018-99, the method for determining the nondeductible amount depends on whether the taxpayer pays a third party to provide parking for its employees or the taxpayer owns or leases a parking facility where its employees park. If a taxpayer pays a third party so that its employee may park at that third party's parking facility, the Code Sec. 274(a)(4) disallowance generally is calculated as the taxpayer's total annual cost of employee parking paid to the third party. However, if the amount the taxpayer pays to a third party for an employee's parking exceeds the monthly limitation under Code Sec. 132(f)(2) ($270 per employee for 2020 under Rev. Proc. 2019-44), that excess amount generally must be treated by the taxpayer as compensation and wages to the employee. If a taxpayer owns or leases all or a portion of one or more parking facilities where its employees park, Notice 2018-99 states that the Code Sec. 274(a)(4) disallowance may be calculated using any reasonable method and provides a four-step methodology that is deemed to be a reasonable method for calculating the nondeductible amount of parking expenses under Code Sec. 274(a)(4).

The IRS received approximately 500 comments in response to Notice 2018-99. According to the IRS, many practitioners requested additional methodologies and simplified rules for taxpayers that own or lease parking facilities to calculate the amount of the parking expense disallowance.

Proposed Regulations

Last week, the IRS issued proposed regulations (REG-119307-19) that modify and expand on the guidance provided in Notice 2018-99. The proposed regulations address QTF expenses paid or incurred by an employer and the application of certain exceptions in Code Sec. 274(e) to QTF expenses. Additionally, the proposed regulations build on Notice 2018 - 99 to include rules addressing the deduction disallowance for expenses related to providing employees transportation in a commuter highway vehicle and transit pass QTFs.

Qualified Transportation Fringes

As in Notice 2018-99, the proposed regulations provide that if an employer pays a third party for its employee's QTF, the Code Sec. 274(a)(4) disallowance is generally calculated as the employer's total annual cost of the QTF paid to the third party.

With regard to QTF parking expenses, the proposed regulations provide that if the employer owns or leases all or a portion of one or more parking facilities, the Code Sec. 274(a)(4) disallowance may be calculated using a general rule or any one of three simplified methodologies for each tax year and for each parking facility. The general rule in the proposed regulations allows employers to calculate the disallowance based on a reasonable interpretation of Code Sec. 274(a)(4), provided that employers (1) use the expense paid or incurred in providing a QTF instead of its value to an employee, (2) allocate parking expenses to reserved employee spaces, and (3) properly apply the exception for parking made available to the general public. A special rule for aggregating parking spaces by geographic location may be used with the general rule.

Under the first simplified methodology, the "qualified parking limit methodology," employerscalculate the disallowance by multiplying the total number of spaces used by employees during the peak demand period, or, alternatively, the total number of the employer's employees, by the Code Sec. 132(f)(2) monthly per-employee limitation on exclusion for qualified parking ($270 for 2020), for each month in the tax year. The second simplified methodology, the "primary use methodology," is largely based on the method deemed reasonable in Notice 2018-99, modified in response to comments received. Special rules for allocating certain mixed parking expenses and aggregating parking spaces by geographic location may be used with the primary use methodology. The final simplified methodology is the "cost per space methodology," which allows employers to calculate the disallowance by multiplying the cost per parking space by the number of available parking spaces to be used by employees during the peak demand period. Cost per space is calculated by dividing total parking expenses (including expenses for inventory/unusable spaces) by total parking spaces (including inventory/unusable spaces). Special rules for allocating certain mixed parking expenses and aggregating parking spaces by geographic location may be used with the cost per space methodology.

Expenses for Transportation in a Commuter Highway Vehicle, Transit Pass, or Parking Sold to Customers

As previously mentioned, Code Sec. 274(e)(8) applies to expenses for goods or services (including the use of facilities) that are sold by the taxpayer in a bona fide transaction for an adequate and full consideration in money or money's worth. The IRS has determined that expenses for transportation in a commuter highway vehicle, any transit pass, and parking that otherwise qualify as QTFs and that are sold by a taxpayer fall within this exception.

Pursuant to Code Sec. 274(e)(8), the proposed regulations provide that any taxpayer expense for transportation in a commuter highway vehicle, a transit pass, or parking that otherwise qualifies as a QTF under Code Sec. 132(f)(1) that is sold to customers in a bona fide transaction for an adequate and full consideration in money or money's worth is not subject to the deduction disallowance under Code Sec. 274(a). The proposed regulations also provide that the term "customer" includes an employee of the taxpayer who purchases the transportation in a commuter highway vehicle, transit pass, or parking in a bona fide transaction for an adequate and full consideration in money or money's worth.

Transportation and Commuting Expenses

The proposed regulations clarify that the disallowance of deductions under Code Sec. 274(l) does not apply to deductions for expenses for QTFs provided to an employee of the taxpayer for which a deduction would be disallowed except that one of the exceptions under Code Sec. 274(e) applies. In addition, the proposed regulations specify that the exception in Code Sec. 274(e)(2) for expenses treated as compensation does not apply to Code Sec. 274(l) transportation and commuting expenses. The IRS stated that the exceptions in Code Sec. 274(e) apply only to amounts that are disallowed under Code Sec. 274(a), and not to those disallowed under Code Sec. 274(l).

New and Modified Definitions Provided

While the proposed regulations generally include the definitions from Notice 2018 - 99, the IRS also added some new definitions and modified others as noted below.

Qualified Transportation Fringe: The IRS added a definition for the term "qualified transportation fringe," which is based on Code Sec. 132(f)(1), except that it does not include qualified bicycle commuting reimbursements, and is defined as any of the following provided by an employer to an employee: (1) transportation in a commuter highway vehicle if such transportation is in connection with travel between the employee's residence and place of employment; any transit pass; or (3) qualified parking.

Employee: In response to questions as to whether volunteers are treated as employees under Notice 2018-99, the IRS added a definition of "employee" but specifically declined to address the employment status of volunteers, noting that the employment status of volunteers depends on the facts and circumstances in each case. The definition of the term "employee," in the proposed regulations is taken from Reg. Sec. 1.132-1(b)(2)(i) and Reg. Sec. 1.132 - 9(b), Q/A - 5 and Q/A - 24.

General Public: The IRS modified the term "general public" to address practitioner concerns that, for taxpayers that lease space in a multitenant building, Notice 2018 - 99 did not include employees, partners, 2-percent shareholders of S corporations, independent contractors, clients, or customers of unrelated tenants in the building as members of the general public. In response to these concerns, the IRS modified the definition to include employees, partners, 2-percent shareholders of S corporations, sole proprietors, independent contractors, clients, or customers of unrelated tenants in multi-tenant buildings, as well as customers, clients, or visitors of the taxpayer, individuals delivering goods or services to the taxpayer, students of an educational institution, and patients of a health care facility.

Geographic Location: The proposed regulations add a definition of the term ''geographic location'' as contiguous tracts or parcels of land owned or leased by the taxpayer. Two or more tracts or parcels of land are contiguous if they share common boundaries or would share common boundaries but for the interposition of a road, street, railroad, stream, or similar property. Tracts or parcels of land which touch only at a common corner are not contiguous.

Total Parking Spaces: The proposed regulations also define the term ''total parking spaces'' as the total number of parking spaces in the parking facility. New terms such as ''available parking spaces'' and ''inventory/unusable spaces'' are added to the proposed regulations and the definition of the term ''parking facility'' is clarified in response to comments received.

Reserved Employee Spaces: While a deduction is generally not allowed for costs of a reserved employee space, a special rule is included in the primary use methodology providing that there is no disallowance for reserved employee spaces if the primary use of the available parking spaces is to provide parking to the general public, there are five or fewer reserved employee spaces, and the number of reserved employee spaces is 5 percent or less of the total parking spaces in the parking facility. Parking spaces reserved for drivers with disabilities are not included in ''reserved employee spaces'' because they may or may not be exclusively reserved for employees.

Mixed Parking Expense: In response to concerns about the amount of expenses allocable to a parking facility if an invoice does not separate parking facility expenses from nonparking facility expenses (e.g., rent or lease payments, utilities, interest, etc.), the IRS added a definition for the term "mixed parking expense." The proposed regulations provide that a "mixed parking expense" is defined as an amount paid or incurred by a taxpayer for both a parking facility and nonparking facility property that a taxpayer owns or leases. The proposed regulations also provide a special rule for allocating certain mixed parking expenses to a parking facility.

Peak Demand Period: Because several methodologies for determining the Code Sec. 274 disallowance for parking facilities require the taxpayer to determine spaces used by employees during the peak demand period, the proposed regulations defined ''peak demand period'' to mean the period of time on a typical business day when the greatest number of the taxpayer's employees are utilizing parking spaces in the taxpayer's parking facility. If a taxpayer's employees work in shifts, the peak demand period would take into account the shift during which the largest number of employees park in the taxpayer's parking facility. However, a brief transition period during which two shifts overlap in their use of parking spaces, as one shift of employees is getting ready to leave and the next shift is reporting to work, may be disregarded. Taxpayers may use any reasonable methodology to determine the total number of spaces used by employees during the peak demand period on a typical business day, for example based on periodic inspections or employee surveys.

Proposed Applicability Date

The regulations are proposed to apply for tax years beginning or after the date the regulations are published as final regulations in the Federal Register. Pending the issuance of the final regulations, taxpayers may rely on the proposed regulations for QTF expenses and transportation and commuting expenses, as applicable, that are paid or incurred in tax years beginning after December 31, 2017. Alternatively, taxpayers may choose to rely on the guidance in Notice 2018-99 until the proposed regulations are finalized.

For a discussion of the tax treatment of QTF benefits, see Parker Tax ¶123,140.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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