Thursday, February 21, 2019
The Tax Code allows for the exclusion of the value of meals and lodging that an employer provides to an employee. Of course, certain conditions must be satisfied for the exclusion to apply. The basic idea is the providing of meals and lodging to an employee must be on the business premises, for the convenience of the employer and as a condition of employment for the value to not be included in the employee’s wages. For farms and ranches in remote areas, this is a particularly attractive fringe benefit for C corporations.
But, a recent IRS Technical Advice Memorandum puts a new twist on the meals side of the equation. It involves the presence of meal delivery services.
The exclusion of meals from an employees wages and meal delivery services – that’ s the topic of today’s post.
Meals and Lodging – The Basics
The value of meals and lodging furnished on the business premises for the employer's convenience and as a condition of employment are not taxable income to the employee (and the employee’s spouse and dependents) and are deductible by the employer if they are provided in-kind. I.R.C. § 119. This tax treatment is available only for meals and lodging furnished to employees, not tenants. See Weeldreyer v. Comm’r, T.C. Memo. 2003-324; Schmidt v. Comm’r, T.C. Memo. 2003-325; Tschetter v. Comm’r, T.C. Memo. 2003-326; Waterfall Farms, Inc. v. Comm’r, T.C. Memo. 2003-327. Likewise, the value of meals and lodging furnished on the business premises for the convenience of the employer are not wages for FICA and FUTA purposes.
As an employer-provided fringe benefit, the meals and lodging arrangement is available only to an individual who is an employee of a C corporation. Owners of other entities cannot take advantage of this fringe benefit. For instance, sole proprietors and partners in a partnership do not have the necessary employee status to qualify for the fringe benefit. Also, I.R.C. §1372 bars S corporation employees who own, directly or indirectly, more than 2 percent of the outstanding stock from receiving tax-free fringe benefits, including the I.R.C. §119 meals and lodging fringe benefit. In addition, with respect to S corporations, the I.R.C. §318 attribution rules apply in determining who considered to be an S corporation shareholder.
Focus on Meals
Meals that are provided to employees during working hours without the furnishing of lodging must be furnished for substantial non-compensatory business reasons of the employer. Examples include emergency call situations, employer business activity that permits on a short meal break, and insufficient eating facilities in the vicinity of the employer’s premises. Treas. Reg. §1.119-1(a)(2).
A significant question is whether the value of groceries furnished to an employee that the employee then prepares into meals is eligible for the exclusion. The IRS claims that it is not. Rev. Rul. 77-806. However, the courts have ruled that either the employer or the employee may prepare the groceries into meals, as long as the arrangement otherwise meets the requirements of I.R.C. §119. Jacobs v. Comm’r, 493 F.2d 1294 (3d Cir. 1974); Harrison v. Comm’r, T.C. Memo. 1981-211. The issue is not settled. Some courts have held that groceries are included under the definition of meals, but other courts and the IRS have ruled that the value of groceries is not meals and is includible in an employee's gross income.
Under a 1997 provision, the cost of meals furnished on the business premises for the convenience of the employer is fully deductible as a de minimis fringe benefit. Under legislation passed in 1998, if more than one-half of the employees to whom meals are provided on the employer's premises are provided for the convenience of the employer, then all of the meals are treated as furnished for the employer's convenience, and the value of the meals is excludible from the employee's income and is deductible by the employer. I.R.C. §119(b)(4). But, there can’t be a cash allowance for meals. If the allowance constitutes compensation, it’s included in the employee’s gross income. See, e.g., Priv. Ltr. Rul. 9801023 (Sept. 30, 1997).
Remoteness. As noted above, for meals to be excluded from an employee’s wages, the meals must be provided as a condition of employment, and be for the employer’s convenience and furnished on the employer’s business premises. I.R.C. §119(a)(1). The requirements seem to be easier for remotely located farms and ranches. In those situations, its often not feasible for employees to go to town for meals. That makes the argument easier that it’s necessary for the employee to eat on the premises – it’s for the employer’s convenience and as a condition of employment.
The litigated cases reveal that the remote location of the business is a significant factor in excluding meals from an employee’s wages. In a 1966 Wyoming case, Wilhelm v. United States, 257 F. Supp. 16 (D. Wyo. 1966), the taxpayers owned a ranch in a remote location several miles from the nearest town. The taxpayers transferred the ranch, ranch-house and all of the equipment to the corporation and attempted to live in the house tax free. The corporation also bought the food and treated it as a deductible expense. The IRS challenged the practice. The Federal District Court for the District of Wyoming ruled against the IRS and noted that the ranch was a grass ranch that put up very little hay and required constant attention by persons experienced in grass ranch requirements to keep cattle alive. The court also noted that during snowstorms the cattle needed to be fed daily, needed to be moved, waterholes had to be kept open, and the cattle had to be protected against the hazards of being trapped or falling into ravines. The court felt that the employees had no other choice but to accept the facilities furnished by the corporate employer, and that the food and lodging were furnished to the employees not only for the convenience of the employer, but that they were indispensable in order to have the employees on the job at all times.
The Wilhelm case was a very important decision, but it also raised the question of how a court would view the situation if the corporation were located in a less remote area. In 1971, the United States Court of Appeals for the 9th Circuit addressed this issue in the context of a grape and crop farming operation in Caratan v. Commissioner, 442 F.2d 606 (9th Cir. 1971). In Caratan, the corporation was located within a ten-minute drive from a residential area of a nearby town. Company policy required supervisory and management personnel to reside on the farm. Company-owned lodging was supplied free of charge for this purpose. The court, in ruling against the IRS, held that the issue was not the remoteness of the corporation, but whether there was a good business reason to require the employees to remain on the premises. The court indicated that the nature of the farming enterprise would determine the reasonableness of requiring employees to reside on the premises rather than the location of the corporation from the nearest town. Whether corporate business required around the clock work such as is the case with a grain drying operation, a farrow-to-finish operation, a dairy or a cattle ranch with characteristics similar to the ranch involved in the Wilhelm case was the real issue.
Historically, cash grain operations have had the greatest difficulty in successfully excluding the cost of lodging and meals provided by the corporation to employees. The IRS has difficulty in accepting the fact that grain farmers simply cannot lock up their machinery after the fall harvest, return the next spring and expect it to still be there. The IRS does not put much weight on security, and they think there is no reason why a grain farmer cannot live in town if all that occurs is the planting, cultivating and harvesting of a crop. On the other hand, livestock ventures or those that are irrigating or drying grain typically have had better success against an IRS challenge. For example, taxpayers were successful in one case involving only a grain operation with the emphasis on grain drying as a reason to be on the premises on a continuing basis. Johnson v. Comm’r, T.C. Memo. 1985-175; compare with J. Grant Farms, Inc. v. Comm’r, T.C. Memo. 1985-174.
Recent Tech Advice Memo. If Caratan stands for the proposition that remoteness is not the issue, the most recent IRS development on employer-provided meals supports that position. In Tech. Adv. Memo. 201903017 (Jan. 18, 2019), an employer provided meals to employees and an IRS examining agent sought guidance on whether the meals were excludible from the employees’ income. The National Office of IRS determined that the value of the meals was not excludible because of the employer’s goals of providing a secure business environment for confidential business discussions; innovation and collaboration; for employee protection due to unsafe conditions surrounding the business premises; and for improvement of employee health; and because of the shortened meal period policy. The National Office determined that the employer’s reasons weren't substantial non-compensatory business reasons as I.R.C. §119 requires. However, the IRS National Office determined that to the extent the taxpayer provided meals so that employees were available to handle emergency outages, the value of those meals were excludible from income under I.R.C. §119. Likewise, snacks provided to employees were excludible as a de minimis fringe.
But, there’s a new twist to the TAM. In the TAM, the IRS noted the increasing presence of meal delivery services. The IRS noted that such services have become more prevalent, and that they tend to undermine the argument that an employee must take their meals on the business premises due to insufficient time to leave the premises for meals. See, e.g., Treas. Reg. §1.119-1(a)(2)(ii)(c).
Perhaps the issue of meal delivery services is not that big of an issue for farms and ranches that are truly remotely located in areas that meal delivery services don’t reach. I.R.C. §119 and the associated Treasury Regulations, of course, don’t mention meal delivery services. Likewise, there is no caselaw discussing meal delivery services either. But, in any event, the TAM may be an indication that the IRS will be more likely to raise questions about employer-provided meals in the future. The availability of a meal delivery service is now a new consideration. And remember, on the employer side of the equation, beginning in 2018, the 100 percent deduction for amounts incurred and paid for the provision of food and beverages associated with operating a business dropped to 50 percent. After 2025, the employer deduction is gone.