Issue Brief: Common Questions About Transit Benefits
April 27, 2022
Background & Purpose
Many employers have adopted some form of fringe transportation benefit that allows employees to pay for certain transportation methods on a pre-tax basis as allowed by Section 132 of the Internal Revenue Code. Tax-free transportation benefits may be offered for qualified parking, transit passes (for the bus, subway, ferry, etc.), and vanpooling (i.e., a commuter vehicle). Any employer can sponsor a qualified transportation plan. Any employee that is employed at the time the qualified transportation benefit is provided may participate in the plan. Like other benefits that receive favorable tax treatment, there are limits on the amount that employees may exclude from their taxable income and use to pay for qualified transportation benefits. In 2022, those limits are $280 per month for parking, and $280 per month for transit passes and vanpooling combined.
Below are some frequently-asked questions regarding the administration of transit benefits.
Can employees be reimbursed for qualified transportation costs with a cash reimbursement?
One of the most commonly asked questions by employers seeking to provide transit benefits is whether they can simply reimburse employees with cash for transit passes that the employee buys on their own. The answer depends on whether there are vouchers (or similar item that can only be exchanged for a transit pass) “readily available” for the employer to distribute directly to employees.
For cash reimbursements to be permitted, there would have to be an argument that: (i) there is not a voucher provider in the area; or (ii) the vouchers are not “readily available.” If there are vouchers readily available, then cash reimbursement for employees buying their own transit pass is NOT permitted.
The IRS has defined a transit voucher as “an instrument that may be purchased by employers from a voucher provider that is accepted by one or more mass transit operators (e.g., train, subway, and bus) in an area as fare media or in exchange for fare media.” Vouchers include transit passes, smartcards, terminal-restricted debit cards, and MCC-restricted debit cards.
Vouchers are readily available for direct distribution by an employer to employees if and only if an employer can obtain the voucher from a voucher provider that doesn’t impose:
- Financial restrictions (i.e., fare media charges); or
- Non-financial restrictions (unreasonable advance purchase requirements, unreasonable purchase quantity requirements, or inappropriate limitations on denominations available to purchase).
Are there substantiation requirements?
Another common question from employers looking to establish a transit benefit program is whether they need to require employees to substantiate or otherwise certify that they are using the transit passes strictly for work purposes. Perhaps surprisingly, the regulations clearly state there are no substantiation requirements for an employees’ appropriate use of transit passes.
Though a lack of substantiation requirements would make it quite unlikely that a plan’s tax-favored status could come into question due to how an employee uses their transit pass, an employer’s knowledge of improper use could change that. If an employer is aware of employees selling, giving away, or otherwise misusing their transit pass, measures should be taken to discourage the practice. Such measures could include expressly prohibiting those practices in the plan; instituting an employee certification that transit passes are being used for the appropriate purposes; and comparing transit routes to employees’ use of the transit pass.
What are the rules for mid-year election changes?
Unlike many tax-favored benefits, transportation benefits and contributions are typically handled on a monthly basis, rather than an annual basis. For example, transportation contribution limits apply monthly rather than annually. This means that employees will generally have the opportunity to make changes to their transportation elections monthly (or perhaps even more frequently). And while unused contributions cannot be cashed out, they can be carried over and used in subsequent months.
So, if an employee contributes a certain amount for transportation benefits, does not use that entire amount, and then terminates coverage, the leftover unused amounts would be forfeited. But if the employee continues participation in the plan, unused amounts from one month may be used for coverage in later months.
What reporting or other disclosures are required?
There are actually no federal reporting requirements for a qualified transportation plan. ERISA does not apply, so no Form 5500 is required. Employers may choose to report Section 132 deductions on employees’ Form W-2 (in Box 14 under “Other”), but this is completely optional.
Following suit, there are no specific disclosure requirements for qualified transportation plans either. However, to avoid confusion and any unpleasant surprises, it is highly recommended that employers communicate with employees about the nature of transit benefits, including the available benefits, monthly limits, election rules, and the irrevocability rule.
To serve this purpose, it is recommended that employers adopt a written plan document for their qualified transportation benefit. Though a plan document is not required for a qualified transportation plan, having the written document will help to preserve the employer’s interests and can serve as that communication to employees.
How are unused funds handled?
What to do with unused transit benefit funds has been a frequent question in the wake of the pandemic and the consequent masses of employees transitioning to a remote or work-from-home position.
Unfortunately, there is no compliant way to simply refund the unused funds to employees – cash refunds of unused transit funds are expressly prohibited by regulations. Employees may carry over the unused portion to a subsequent coverage period (e.g., subsequent months), but if participation in the plan terminates, the employee forfeits any unused amounts. For this reason, it is recommended that employers make sure to communicate with employees on these restrictions and send reminders to employees throughout the year of what their account balance is and that they may adjust their contributions.
- 132rules do not clearly address what happens to unclaimed money after a transportation plan participant becomes ineligible to participate in the plan, or no longer has eligible expenses. Since the unclaimed amount cannot be refunded to the participant, some potential alternatives are:
- The employer could keep the money;
- The amounts could be used by the employer to pay plan expenses;
- The amounts could be distributed on an even/uniform basis to all participants (on a tax-favored basis) to use toward future qualifying expenses; or
- The amounts could be distributed on an even/uniform basis to all participants as taxable compensation.
The plan document, if any, should be consulted to determine if such use has already been addressed.
Are Qualified Transportation Plans subject to nondiscrimination rules?
Qualified transportation plans are not subject to any specific nondiscrimination rules or discrimination testing like many other benefits. Therefore, it is likely okay to have eligibility rules, employer contributions, or maximum salary reduction limits that favor highly compensated or key employees, if desired.
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