Tax free qualified disaster relief payments
TAX ALERT |
In response to the COVID-19 pandemic, employers have been wondering whether they can make tax-free payments under section 139 of the Internal Revenue Code (the 'Code') to help affected employees.
Section 139 permits employers to provide employees with ‘qualified disaster relief payments’ to assist with personal needs arising from a qualified disaster under the Code. The IRS FAQs issued April 1, 2020 specifically provide that the CODIV-19 pandemic is considered a qualified disaster for purposes of section 139.
Qualified disaster relief payments under section 139 are amounts paid to or for the benefit of an individual to reimburse or pay reasonable and necessary (1) personal, family, living or funeral expenses incurred as a result of a qualified disaster; or (2) incurred for the repair or rehabilitation of a personal residence or repair or replacement of its contents to the extent that the need for such repair, rehabilitation or replacement is attributable to a qualified disaster. These expenses are payable only to the extent not compensated by insurance or otherwise. Section 139 does not permit income replacement or other compensatory payments.
Qualified disaster payments are excluded from the employee’s gross income, and are deductible to employers. The payments may or may not be excluded from state income tax since state laws vary. It is important to note that section 139 never includes ‘income replacement.’ Rather the payments are meant to reimburse or pay for items that are additional expenses directly related to the disaster, in this case the COVID-19 pandemic.
Historically, section 139 has applied to payments arising from disasters such as natural disasters where payments, such as for shelter or replacement clothing or household items, are generally recognizable as qualified disaster relief payments. The unique nature of the COVID-19 pandemic has resulted in questions relating to how to identify payments that qualify as a qualified disaster relief payment. Below is a list of potential expenses that may be incurred as a result of the COVID-19 pandemic:
- Unreimbursed medical expenses for COVID-19 treatment
- Health-related expenses such as hand sanitizers and disinfectant
- Child or dependent care or tutoring due to school or daycare closings
- Alternative transportation commuting means in lieu of mass transit (if the employee used mass transit before the emergency was declared)
- Caring for family members diagnosed with COVID-19
- Funeral expenses
- Increased utility expenses
- Increased home expense due to telecommuting, such as home office set up or use of a higher level of bandwidth
- Additional housing expenses related to quarantining from household members
Companies may want to have a general policy in place for the types of reimbursements or items it is willing to pay for under section 139. For example, employees may need printers and printer paper at home, but the company may decide that it will reimburse for printer paper, but not a printer, to each employee who is unexpectedly working at home.
As qualified disaster relief payments rely on the individualized expenses of an employee, before making a payment or reimbursement under section 139 employers may need to ask employees questions to help ascertain their needs:
- What are you immediate needs now that you are working at home?
- Have you or household member been exposed to the COVID-19 virus?
- What sort of insurance do you have?
- Have you had a chance to contact your insurance agent to talk about coverage?
- Are the expenses of medical costs etc. covered under your policy?