Taxpayers have been subject to the new U.S. tax rules under the Tax Cuts and Jobs Act (TCJA) for almost half a year now. TCJA has changed the way qualified job-related moving expenses are treated for tax purposes. This new legislation went into effect at the beginning of the 2018 calendar tax year and remains in effect through December 31, 2025.
The new law affects what used to be called “qualified” moving expenses, such as movement of household goods and personal effects, airfare for the employee and family (including pets), and in-transit lodging. The tax treatment of “nonqualified” moving expenses, such as in-transit meals, lodging outside of the transit period, and other nonqualified moving expenses, remains the same under the old and new laws.
It is important to note there is an exception for any active duty members of the military, who are able to deduct required moving expenses under both the old and new laws.
Employer Tax Consequences
Under the new law, if the employer reimburses qualified moving costs to the employee or pays a third-party moving company directly, these payments are now taxable to the employee as additional compensation, and they are deductible by the employer as a compensation expense.
For the employer, this represents only a minor change from prior treatment. Before the new law, the employer was still able to deduct these expenses; however, they were considered an operating expense rather than a compensation expense.
Overall, there is only a small net tax impact to the employer, with the important exception of the tax gross-up option, as discussed below.
Employee Tax Consequences
For employees, on the other hand, the new law has significant implications.
First, if an employee pays moving costs out of pocket, the qualified job-related moving expenses will no longer be deductible on an employee’s federal income tax return (i.e., IRS Form 3903 is no longer valid).
Second, if the employer reimburses the employee for qualified moving costs or pays a third-party moving company directly, the payments are no longer excluded from the employee’s taxable compensation. Instead, they are now treated as additional compensation, subject to federal, state, local, social security, and Medicare taxes. This treatment results in a significant tax cost to the employee.
These changes mean that, overall, under the new law, there are no tax relief provisions for incurring job-related moving expenses, nor are there alternative methods to restructure the moving expense reimbursement to gain a favorable tax deduction or credit.
Internal Revenue Service Focus on Moving Expenses
What was the impetus for the change in tax treatment for qualified moving expenses? It appears that Congress decided that many tax-free employee benefits should be scaled back under the new law, and “qualified moving expense” benefits fit into the category of employee tax-favored benefits.
Employee Relief Outside of the Tax Code
Although the employee bears the brunt of the tax law changes related to moving expenses, the employer can provide relief by choosing to gross-up the payments for taxes, including federal, state, local, social security, and Medicare. (Some employers already use this option for nonqualified moving expenses.) The tax gross-up basically shifts the tax burden from the employee to the employer.
Example: George moved for his job in 2018, and his employer paid $20,000 in moving expenses to third-party moving company in 2018. The employer would report $20,000 as additional taxable compensation to George in 2018. The additional tax liability George would incur is $8,000 (assuming a federal, state, and FICA marginal rate of tax of 40%), and the employer would need to withhold the additional taxes at the time the moving cost benefit is received.
The company could opt to cover the taxes for George to alleviate George’s tax burden by calculating a tax gross-up and remitting the tax to the respective tax authorities on his behalf. Given George’s marginal tax rate of 40%, the benefit plus tax gross-up is $33,333 (20,000/(1.0–.40), of which $20,000 is the moving expense benefit, and $13,333 is the tax gross-up that is remitted to the tax authorities on the employee’s behalf. Overall, the compensation expense is $33,333, which is taxable to the employee and deductible by the employer.
It is common amongst employers to have a moving expense policy that outlines moving expense guidelines, including tax gross-up provisions. Policies can differ with respect to gross-up methodologies and gross-up tax rates.
Employer Action Steps
To adjust to the changes in tax law, employers should consider the following actions:
- Configure payroll systems: Moving expense benefit costs incurred on and after January 1, 2018, will need to be added to employees’ earnings to reflect the inclusion in wages subject to federal income tax, federal income tax withholding, FICA, and FUTA. Reporting on Form W-2, box 12, code P will not be required except for the Armed Forces where nontaxable qualified moving expense payments still apply. A payroll system change is also required for state and local income tax withholding for those states that conform to the Internal Revenue Code as of January 1, 2018.
- Update relocation policies: Employers will need to update their policies to address the taxation and reporting of moving expenses and tax gross-up provisions. Employers should assess the additional employer costs of grossing up taxable moving expenses, as this could significantly increase the costs of the company’s relocation program.
- Issue internal communications: Employers will need to communicate the changes in policy and payroll to business units and employees.
- Reassess their mobility strategies: Long-term assignment costs will undoubtedly increase for most companies. Short-term assignment and extended and frequent business traveler programs, which have been on the rise in recent years, may now (more than ever) be an attractive alternative and will need to be evaluated.
If you require assistance with any of the recommended Employer Action Steps above, please contact Jill Mikolajczak, Director of Global Mobility Tax Services, at firstname.lastname@example.org.