Covington Seeks Broadened Scope in Fringe Benefit Regs

August 24, 2020

CC:PA:LPD:PR (REG-119307-19)
Room 5203
Internal Revenue Service
PO Box 7604, Ben Franklin Station
Washington, DC 20044.

Re: Transportation and Commuting Expenses under Section 274

To Whom It May Concern:

Covington & Burling LLP submits this comment letter on behalf of several of our clients. Our clients are concerned about the approach taken by Treasury and the Internal Revenue Service (“IRS”) in interpreting section 274(l) of the Internal Revenue Code of 1986, as amended (“Code”), in the proposed regulations published in the Federal Register on June 23, 2020. In particular, they clients are concerned that Treasury and the IRS have interpreted the exception in section 274(l) related to the employees' safety more narrowly than Congress intended. Our clients believes the exception should also apply whenever unsafe conditions, as defined in Treasury Regulation § 1.61-21(k) or Treasury Regulation § 1.132-6(d)(2)(iii), exist with respect to an employee. Our clients respectfully request that, at a minimum, Treasury and the IRS broaden the scope of the exception in the final regulations to also permit the deduction of employee transportation expenses paid or incurred to provide commuting benefits for which the employer may use either the special valuation rule under Treasury Regulation § 1.61-21(k) or the partial exclusion under Treasury Regulation § 1.132-6(d)(2)(iii).

I. BACKGROUND

Section 162(a) allows a deduction for ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business. However, section 274 limits or disallows deductions for certain expenditures that otherwise would be allowable under Chapter 1 of the Code, including under Section 162(a). Prior to amendment by Public Law 115-97 (131 Stat. 2054), commonly referred to as the Tax Cuts and Jobs Act (TCJA), section 274 did not limit the deductibility of expenses incurred by an employer when providing commuting benefits to employees.

Section 13304 of TCJA added a new Section 274(l) that provides that no deduction is allowed under Chapter 1 for any expense paid or incurred for providing any transportation, or any payment or reimbursement, to an employee of the taxpayer in connection with travel between the employee's residence and place of employment, except as necessary for ensuring the safety of the employee. In Proposed Treasury Regulation § 1.274-14(b), Treasury and the IRS have interpreted the statutory exception for the safety of the employee to require the existence of “a bona fide business-oriented security concern” within the meaning of Treasury Regulation § 1.132-5(m).

II. THE IRS HAS PREVIOUSLY ISSUED REGULATIONS SPECIFICALLY ADDRESSING SITUATIONS IN WHICH AN EMPLOYER PROVIDES COMMUTING BENEFITS FOR THE SAFETY OF THE EMPLOYEE.

Shortly after the 1989 issuance of the final fringe benefit regulations, the appropriate tax treatment of late-night cab rides provided by employers concerned for their employees' safety became a source of much discussion between employers and the IRS. Initially, the discussion centered around the potential treatment of those commuting benefits as de minimis fringe benefits under two regulatory provisions designed to cover the occasional provision of local transportation to employees because of changes to work schedules. Specifically, under Treasury Regulation § 1.132-6(d)(2)(i), local transportation fare provided occasionally (i.e., not on a regular or routine basis) to an employee when overtime work necessitates an extension of the employee's normal work schedule may be treated as a fully excludable de minimis fringe benefit. In contrast, Treasury Regulation § 1.132-6(d)(2)(iii) provides a partial de minimis exclusion for local transportation furnished to employees for use in commuting to and from work because it is unsafe for the employee to use other available means of transportation due to unusual circumstances.

The partial exclusion in Treasury Regulation § 1.132-6(d)(2)(iii) is limited to “noncontrol” employees¹ who are provided local transportation because it is unsafe to use other available means of transportation. The determination of unusual circumstances is made with respect to the employee receiving the transportation and is based on the facts and circumstances. Situations in which an employee is asked to work outside the employee's normal work hours or to make a temporary shift change are considered unusual. Although the regulations do not explicitly define “unsafe conditions,” it identifies some factors indicating that it is unsafe for the employee to use other available means of transportation including the history of crime in the geographic area surrounding the employee's workplace or residence and the time of day during which the employee must commute. If unusual circumstances and unsafe conditions exist and the employer transports the employee between work and home, the excess of the value of each one-way commute over $1.50 is excludable from the employee's gross income, provided the employee is not a control employee.

Neither of the exclusions in Treasury Regulation § 1.132-6(d), applies to routinely provided local transportation benefits because of the employer's concerns about its employees' safety during the time of the employees' normal commute. In the early 1990s, the IRS took the position, during employment tax examinations, that many employers were providing personal commuting benefits that did not qualify for exclusion, in whole or in part, because of the frequency with which they were provided. Following extensive discussions with employers, particularly those in urban areas, the IRS amended the fringe benefit regulations in 1992 to provide a new special valuation rule in Treasury Regulation § 1.61-21(k) for employer-provided transportation furnished, solely because of unsafe conditions, to an employee who would otherwise walk or use public transportation. This special valuation rule does not have an overtime or unusual circumstances work requirement. It applies to situations in which local transportation fare is provided to “qualified employees”² who, under appropriate circumstances are receiving the benefit because of unsafe conditions, even though their regular working hours have not been extended or changed. Typical examples include shift workers who begin or end work at a time when it is not safe to walk or take public transportation in the area of the employee's home or workplace.

Although identifying a broadly similar standard for unsafe conditions, the Section 61 regulations differ slightly from the de minimis fringe exclusion. For purposes of Treasury Regulation § 1.61-21(k), unsafe conditions exist if a reasonable person would, under the facts and circumstances, consider it unsafe to walk to or from home, or to walk to or use public transportation at the time of day the employee must commute. The regulations indicate that one of the factors indicating whether it is unsafe is the history of crime in the geographic area surrounding either the employee's workplace or residence at the time of day the employee must commute.

If the requirements of Treasury Regulation § 1.61-21(k) are met, the amount includible in the employee's income is $1.50 per one-way commute (i.e., from home to work or from work to home). Because the special valuation rule applies on a trip-by-trip basis, the value of a trip based on its fair market value must be included in the employee's wages if the requirements of the regulation are not met with respect to any particular trip.³

III. THE CURRENT REGULATORY DEFINITION OF “UNSAFE CONDITIONS” BETTER REFLECTS CONGRESSIONAL INTENT FOR PURPOSES OF DESIGNING AN EXCEPTION UNDER SECTION 274(l) FOR THE SAFETY OF THE EMPLOYEE.

Our clients believe that Congress did not intend to limit the exception to the section 274(l) deduction disallowance only to commuting expenses provided to an employer's highest-paid employees. Instead, it is more likely that Congress intended the exception to apply when the transportation fringe benefit in question is being provided to protect any employee facing unsafe conditions during a commute. The partial exclusion in Treasury Regulation § 1.132-6(d)(2)(iii)(C) and the special valuation rule in Treasury Regulation § 1.61-21(k)(5) are excellent examples of the past recognition by Treasury and the IRS that commuting benefits provided to ensure “the safety of the employee” should be treated favorably for fringe benefit purposes. Congressional recognition that an employer's concern for the safety of its employees is based on sound public policy is evidenced by the exception for the employee's safety in section 274(l). It would be inconsistent with this public policy to penalize the employer's business decision to protect an employee's safety while commuting by disallowing the deduction of the related expense.

In its interpretation of the exception for an employee's safety, Proposed Treasury Regulation § 1.274-14(b) would require the existence of “a bona fide business-oriented security concern” within the meaning of Treasury Regulation § 1.132-5(m). That regulation, which was promulgated under the working condition fringe benefit exclusion of section 132(d) of the Code, is essentially a special valuation rule that excludes from the employee's income and wages, in whole or in part, the value of certain fringe benefits provided to an employee in conjunction with protecting an employee when there is “a bona fide business-oriented security concern.”

Under the regulations, a bona fide business-oriented security concern exists only if “the facts and circumstances establish a specific basis for concern regarding the safety of the employee.”⁴ The factors identified as relevant for this determination include “[a] threat of death or kidnapping of, or serious bodily harm to, the employee or a similarly situated employee because of either the employee's status as an employee of the employer” or “a recent history of violent terrorist activity in the geographic area in which the transportation is provided, unless the activity is focused on a group of individuals which does not include the employee . . . or occurs to a significant degree only in a location . . . where the employee does not travel.”⁵

Critically, no bona fide business-oriented security concern is deemed to exist within the meaning of Treasury Regulation § 1.132-5(m), unless the employer establishes “an overall security program” with respect to the employee.⁶ This requires a nongovernment employer to protect the employee either on a 24-hours basis or at the level determined by an independent security study performed by an independent security consultant.⁷ In practice, nongovernment employers establish the existence of a bona fide business-oriented security concern only with respect to senior executives. This exception is often relevant when considering benefits such as personal security guards, chauffeurs trained as bodyguards, private air travel, and home security systems. Given the broad scope of potential fringe benefits associated with personal protection, Treasury Regulation § 1.132-5(m) limits the scope of a bona fide business-oriented security concern to a narrower set of circumstances in which the relationship between the threat to the employee's safety and the employee's status as an employee of the employer is direct or the risk to the employee is high and related to a business need for the employee to be in a certain area. This is driven by the fact that the exclusion is a working condition fringe benefit, which requires that the employee would have been able to deduct the expense under section 162(a) as a business expense if the employee had paid the expense. There is no evidence that Congress intended to similarly limit the exception under section 274(l) to situations in which the threat to the employee's safety arises during job-related activities.

The provisions under Treasury Regulations §§ 1.132-6(d)(2)(iii) and 1.61-21(k) reflect Treasury's recognition that certain commuting benefits provided to ensure employees' safety should be treated favorably under the fringe benefit rules. In contrast to the proposed rule, these regulations encourage employers to incur expenses for the safety of rank-and-file employees, when the facts and circumstances support the existence of unsafe conditions. Employers rarely — if ever — engage independent security consultants to perform security studies or provide 24-hour security to rank-and-file workers. Given the changes to section 162(m) adopted as part of TCJA, it seems unlikely that Congress intended the exception in section 274(l) to be limited only to the same executives for whom it was simultaneously limiting compensation deductions. Indeed, the existence of two regulatory provisions related specifically to an employer's provision of a commuting benefit because other means of transportation are unsafe makes it likely that Congress intended the exception to apply when “unsafe conditions” exist with respect to an employee's commute.

IV. ADOPTING A REGULATION INTERPRETING THE STATUTORY EXCEPTION TO APPLY MORE BROADLY IS SOUND PUBLIC POLICY.

There are many situations in which an employee's safety may be at risk during a commute. Disallowing employers' deductions for expenses incurred in ensuring that employees reach or return from work safely when unsafe conditions exist is contrary to the public policy reflected in the existing Treasury Regulations discussed above. Accordingly, the final regulations under section 274(l) should adopt the “unsafe conditions” standard reflected in existing Treasury Regulations when interpreting the reach of the statutory disallowance.

Currently, many employers are assisting rank-and-file workers, who otherwise rely on public transportation, with commuting options designed to reduce the risk of exposure to SARS-CoV-2. Although beyond the scope of what Treasury envisioned when drafting the de minimis fringe benefit regulations, a global pandemic would seem to constitute an “unusual circumstance” and based on Centers for Disease Control (“CDC”) guidance, crowded subway cars and buses could be “unsafe,” particularly for workers with asthma, chronic obstructive pulmonary disease, heart disease, diabetes or other pre-existing conditions that significantly increase the risk of an adverse outcome from SARS-CoV-2. Although the science is unsettled and still developing, public transportation makes “social distancing” difficult and riders may be exposed to an infected fellow passenger for an extended period of time.⁸ Following CDC guidelines for the safe use of public transportation make it difficult to use public transportation for commuting.⁹

Hospitality and retail employees, health care workers, and other first responders residing in urban areas are among those most likely to commute via public transportation. At the same time, these workers are also among the most likely to be required to commute during the COVID-19 Pandemic. Faced with these realities, some employers have provided employees with alternative means of commuting to ensure their safety and to reduce their risk of exposure. Although the pandemic may be of limited duration, Treasury and the IRS should ensure that the final regulations do not serve as an impediment to or discouragement for employers seeking solutions for keeping workers safe.

Beyond the pandemic, there are reasons why an employer may feel it is necessary to provide commuting benefits to an employee.¹⁰ Many employers operate retail and restaurant outlets in urban environments with high crime rates. Employees are often required to arrive for shifts before dawn to begin preparations for opening. Similarly, employees are often unable to leave until late at night after stocking, cleaning, and other tasks are completed long after a location has closed. In many cases, it would be unsafe for employees to walk home or rely on buses or other public transportation to commute at these times and in these geographic areas.

In addition to the situations described above, several U.S. cities have seen civil unrest over the last several months. In many cases, agitators have used peaceful protests as an opportunity to engage in looting and other behaviors that have sometimes turned violent. Employees may be required to commute to work at locations in the same geographic area as these protests, making it unsafe for employees to walk or rely on public transportation regardless of the time of day. This may be particularly true for employees of large corporations or businesses that are viewed as opposed to the goals of the protests.

As discussed above, these circumstances are exactly those that Treasury and the IRS recognized when drafting the partial exclusion for transportation under the de minimis fringe benefit regulations and revising the Section 61 regulations to provide the special valuation rule. These provisions were adopted in recognition of the reality that employers might, at certain times or in certain areas, need to provide commuting benefits to their employees for safety reasons. The provisions were designed to enable employers to do so while balancing the personal benefit received by the employee with the business need to provide a safe commuting option. Indeed, many workers, who in the absence of a safety concern, would ordinarily walk to work or rely on public transportation simply could not afford the cost of commuting by taxi, ride share, or other method. The proposed regulation would undercut the sound public policy currently reflected in the fringe benefit regulations, which permits employers to make a reasoned determination of whether a rank-and-file employee needs transportation to or from work because of unsafe commuting conditions. If an employer is discouraged from providing transportation under these circumstances because of the economic effect of a deduction disallowance, the public policy in favor of supporting employers that provide safe commuting benefits to qualifying employees is severely suppressed. At the same time, the proposed regulation would permit the deduction of private aircraft travel for commuting executives for whom the company has determined an bona fide security concern exists.

V. CONCLUSION

The proposed regulations' position that the exception in section 274(l) applies only when a bona fide business-oriented security concern under Treasury Regulation § 1.132-5(m) exists with respect to an employee is overly narrow, does not reflect Congressional intent, and does not reflect sound public policy. In addition to the standard included in the proposed regulations, the final regulations should allow an employer to deduct the costs associated with providing employee commuting benefits due to unsafe conditions, as defined in Treasury Regulation § 1.132-6(d)(2)(iii)(C) and the special valuation rule under Treasury Regulation § 1.61-21(k)(5) is applicable. At a minimum, the final regulations should permit the employer to deduct costs associated with providing transportation to an employee in situations where either a bona fide business-oriented security concern exists or unsafe conditions within the meaning of the partial exclusion or special valuation rule exist. Our clients respectfully request Treasury and the IRS to issue final regulations that adopt these proposed changed.

Respectfully submitted,

Marianna G. Dyson
Senior Of Counsel

S. Michael Chittenden
Special Counsel

Covington & Burling LLP
Washington, DC