On August 3, 2020, the U.S. Internal Revenue Service (IRS) posted a set of frequently asked questions (FAQs) regarding the tax treatment of leave-sharing plans maintained by an employer to help its COVID-19 affected employees. The FAQs confirm that COVID-19 is a “major disaster” for purposes of IRS Notice 2006-59, which provides guidance on leave-sharing plans.
An employer may set up a tax-favored leave-sharing plan pursuant to IRS Notice 2006-59 that allows employees to deposit their accrued leave in an employer-sponsored leave bank for use by other employees who have been affected by COVID-19 pandemic. In this type of arrangement, the recipient employee, rather than the donor employee, has taxable wages and thus the recipient employee is subject to employment tax withholding requirements with respect to the donated leave. Accordingly, the value of the leave amount is reportable on Form W-2 of the recipient employee in Box 1 (wages subject to income tax), Box 3 (wages subject to Social Security), and Box 5 (wages subject to Medicare). In addition, the donor employee “may not claim an expense, charitable contribution, or loss deduction with respect to the deposited leave.”
IRS Notice 2006-59
A major disaster leave-sharing program must satisfy all requirements set forth in IRS Notice 2006-59. Such arrangements must be in a written plan document, subject to the following requirements:
- The recipient employee must be adversely affected by a major disaster (here, COVID-19) such that “the disaster has caused severe hardship to the employee or a family member of the employee that requires the employee to be absent from work.”
- The plan must not “allow a donor employee to deposit leave for transfer to a specific leave recipient.”
- The leave donated in any year must not “exceed the maximum amount of leave that an employee normally accrues during the year.”
- The recipient employee will have taxable paid leave at his or her normal rate of compensation.
- “The plan adopts a reasonable limit, based on the severity of the disaster, on the period of time after the major disaster occurs during which a leave donor may deposit the leave in the leave bank, and a leave recipient must use the leave received from the leave bank.”
- The recipient employee “may not convert leave received under the plan into cash in lieu of using the leave.”
- “The employer must make a reasonable determination, based on need,” before approving any paid leave to a recipient employee.
- Leave deposited for a major disaster “may be used only for employees affected by that major disaster.”
- “[A]ny leave deposited under a major disaster leave-sharing plan that is not used by leave recipients … must be returned within a reasonable period of time to the leave donors.”
On June 11, 2020, the IRS released Notice 2020-46 to address the taxability of employer leave-based donation programs that aid victims of the COVID-19 pandemic.
- Employers may want to establish tax-favored leave-sharing plans to aid employees affected by the COVID-19 pandemic.
- Employers with existing leave-sharing plans may want to expand or amend their plans to include COVID-19 as a major disaster.
- Employers may want to review state-specific withholding tax requirements to ensure that leave-sharing plans conform to both IRS guidance and state-specific requirements.
- Employers may also want to consider other altruistic options to aid employees during a disaster.
Ogletree Deakins will continue to monitor and report on developments with respect to the COVID-19 pandemic and will post updates in the firm’s Coronavirus (COVID-19) Resource Center as additional information becomes available. Important information for employers is also available via the firm’s webinar programs.