When employees travel for business, employers often cover or reimburse their expenses. Generally, costs for transportation, meals, lodging, and incidentals can be tax-free to the employee if the trip is short-term. However, longer trips can complicate things, potentially turning reimbursed travel expenses into taxable income reported on Form W-2 and subject to payroll taxes. This article explains common travel arrangements that may lead to taxable income for employees under federal tax law. While state tax issues can arise, they are beyond this discussion. Remember, this is a general overview, and the specific tax consequences depend on the details of each travel arrangement.
Alt: Business professional packing luggage for an upcoming trip, emphasizing organization and efficiency.
For this discussion, we’ll assume all travel expenses are ordinary, necessary, and incurred by an employee (or a partner) while traveling away from home overnight for the employer’s business. We’ll also assume proper substantiation exists, proving who incurred the expense, where, when, why, for whom, and the amount. Employers usually require this information within 60 days of the expense.
Simplified substantiation methods like “per diem” rules exist for certain meal and lodging expenses, but these are not covered here.
Understanding the “Tax Home”
The “tax home” location is crucial for determining the tax treatment of travel expenses. According to the IRS and court rulings, an employee’s tax home is their regular place of work, not their personal residence. Usually, the tax home includes the entire city or area where the regular workplace is located. Generally, only expenses paid or reimbursed for travel away from the employee’s tax home are eligible for tax-free treatment as business travel.
Travel To & From a Regular Workplace
Travel expenses between an employee’s residence and their regular workplace (tax home) are typically considered personal commuting expenses, not business travel. If the employer pays or reimburses these, it is taxable compensation to the employee. This applies even for long distances, like when an employee takes a new job in a different city. The IRS states that if an employee chooses to live away from their regular workplace (tax home), employer-paid travel expenses between the two locations are taxable income.
Example: Sarah lives in Boston, but her regular workplace is in New York City. Her employer reimburses her for an apartment in NYC and transportation costs between the two cities. Since NYC is her tax home, these reimbursements are considered personal commuting expenses and are taxable to Sarah.
Managing Two Regular Workplaces
Sometimes, employers require employees to consistently work in two business locations. Factors like time spent, business activity, and income earned determine the primary and secondary locations. The employee’s residence can be at either location. The IRS generally allows tax-free employer-paid transportation costs between the two locations. Furthermore, lodging and meals at the location away from the employee’s residence can usually be reimbursed tax-free.
Alt: Business person concentrating on work, using a laptop in a bright and modern office environment.
Example: Mark lives in Austin and works at his company’s headquarters. The company opens a new branch in Dallas and assigns him to manage day-to-day operations there for two years. He spends three days a week in Austin and two days in Dallas. Because the work in each location is driven by business needs, Mark has primary and secondary work locations and isn’t commuting between them. His travel between Austin and Dallas, along with Dallas meals and lodging, can be reimbursed tax-free.
It’s crucial that the employer can justify the business need for the employee’s routine travel between two locations. Courts examine the time spent, business conducted, and income generated at each location. Simply having an employee briefly visit a location near their residence is unlikely to qualify as having two regular workplaces. The IRS would likely consider this one regular workplace, making employer-paid travel between the residence and the regular workplace taxable commuting expenses.
When Your Residence Becomes the Workplace
In some cases, an employer hires an employee to work primarily, or exclusively, from their home because they aren’t physically needed at an employer location. If the employer requires the employee to work from their residence on a regular basis, doesn’t expect them to travel to another office regularly, and doesn’t provide office space elsewhere, the residence can be the tax home since it’s the regular workplace. When the employee travels away from their residence (tax home), temporary travel expenses can be reimbursed tax-free.
Example: Lisa is a graphic designer working from her home in Boise, Idaho, for a company in Los Angeles. She travels to Los Angeles quarterly for team meetings. Since Lisa has no assigned office in Los Angeles and is expected to work from home, her travel expenses to Los Angeles can be reimbursed tax-free.
Navigating Travel to a Temporary Workplace
When an employer temporarily assigns an employee to a location far from their regular workplace, expecting them to return, the crucial question is whether the employee’s tax home shifts to the temporary workplace. If it does, employer-paid travel expenses between the residence and the temporary workplace become taxable compensation because they are personal commuting expenses. Whether the tax home shifts depends on the assignment’s duration and the expectations of the parties involved.
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One Year or Less: If the assignment is expected to last (and actually does last) one year or less, the employee’s tax home generally doesn’t move. Therefore, travel expenses between the residence and temporary workplace are typically tax-free.
Example: David lives and works in Seattle. His employer assigns him to work in Portland for nine months before returning to Seattle. David’s travel expenses associated with the Portland assignment are not taxable because it’s considered temporary business travel.
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More than One Year or Indefinite: If the assignment is expected to last more than one year or is for an indefinite period, the employee’s tax home generally does move. This is true even if the assignment ends early and lasts one year or less. Consequently, travel expenses are taxable compensation.
Example: Maria lives and works in Phoenix. Her employer assigns her to work in Las Vegas for 18 months before returning to Phoenix. Maria’s travel expenses associated with the Las Vegas assignment are taxable because they are considered personal commuting expenses.
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Extension Beyond One Year: If an assignment initially intended for one year or less is extended beyond a year, the tax home shifts to the temporary workplace upon extension. Travel expenses are non-taxable until the extension but become taxable afterward.
Example: John is assigned to a temporary workplace with a realistic expectation of returning in six months. After five months, the project extends to 14 months. Only travel expenses incurred before the extension are tax-free. Post-extension, they are taxable compensation.
When an employee’s residence and regular workplace are in the same location and they are on a temporary assignment, they may return home for weekends or holidays. Expenses related to these trips can be reimbursed tax-free, but only up to the amount the employee would have incurred if they had remained at the temporary workplace.
Special Scenarios: Temporary Workplace Travel
To ensure payments or reimbursements for travel expenses are tax-free, the employee must maintain ties to their regular workplace. They must expect to return and actually work there long enough to maintain it as their tax home. Special situations arise with recurring travel, continuous temporary workplaces, and breaks in assignments.
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Recurring Travel: While formal IRS guidance is lacking, if an employee’s travel to a temporary workplace is (1) sporadic and infrequent, and (2) doesn’t exceed 35 business days per year, it’s considered temporary, even if it occurs over multiple years.
Example: Emily works in Chicago but travels to Milwaukee on an as-needed basis for the next two years. If her travel to Milwaukee is infrequent, sporadic, and less than 35 business days annually, her employer can reimburse her travel tax-free.
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Continuous Temporary Workplaces: If an employee lacks a regular workplace and has a series of temporary workplaces, and their residence doesn’t qualify as a tax home under the IRS’s three-factor test, they are considered “itinerant.” In this case, employer-paid travel expenses are generally taxable.
Example: Kevin works in Atlanta, then is sent to Dallas for eleven months, followed by Houston for eight months. He’ll be sent to Denver after Houston with no return to Atlanta expected. Kevin doesn’t maintain a residence in Atlanta. His employer-paid travel expenses are likely taxable income.
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Breaks Between Temporary Workplaces: According to an internal IRS memorandum, a break of three weeks or less doesn’t prevent aggregating assignments, but a break of at least seven months does.
Example: Michael’s regular workplace is in Nashville. His employer sends him to Memphis for ten months, back to Nashville for eight months, and then to Memphis again for four months. Because the assignments are separated by a break of at least seven months, they are not aggregated, and each assignment can be reimbursed tax-free.
Conclusion: Navigating the Complexities
Tax rules for business travel are complex and depend heavily on individual circumstances. Employers must carefully analyze travel arrangements to determine whether paid or reimbursed travel expenses are taxable or non-taxable to employees. Properly understanding “Are Reimbursed Travel Expenses Taxable Income” is crucial for compliance.
