Bumpy Tax Landing on Employee Benefit

In a new case, Mihalik, C Memo 2022-36.4/13/22, a retired pilot took advantage of a special program of his former employer that provided free airline tickets on a stand-by basis. Although the value of such benefits may qualify for a tax-free statutory fringe benefit, the Tax Court refused to give clearance in this instance.  

Generally, the cost of de minimis fringe benefits is exempt from federal income tax. This occurs when it is impractical or unreasonable for an employer to keep track of relatively small benefits. It may range from use of the company fax machine or copier for personal reasons to free coffee, soft drinks or donuts in the office. Also, the value of no-additional cost services may be exempt from tax. A “no-additional cost service” is (1) provided by an employer to an employee; (2) at no substantial additional cost to the employer; (3) for use by the employee; and (4) is offered for sale to customers or clients in the normal course of business.

For example, excess capacity services, such as stand-by flights provided by commercial airlines to their employees, are often treated as no-additional cost services and aren’t taxable to the recipients. To qualify for this exemption, however, the benefit must be provided to an active or retired employee, their spouse or their dependent child.

In this case, the taxpayer, a resident of Florida, is a retired United Airlines pilot. The airline provides retired pilots (and their family members and friends) with free stand-by tickets under its Retiree Pass Travel Program (RPTP). The taxpayer, his spouse and their adult daughter traveled extensively under the RPTP in 2016. Other relatives also benefitted from the program.

United Airlines kept detailed records of all these travel activities. It reported taxable income of $5,478 for 2016, based mainly on the travel of the taxpayer’s relatives. The IRS issued a notice of deficiency for $2,862, including an amount attributable to the travel of the taxpayer’s adult daughter. As a result, the taxpayer took the IRS to Tax Court, despite the relatively small amount of tax at stake.

At trial, the taxpayer claimed that the value of the benefits constitute a de minimis fringe benefit. Alternatively, it argued that this was a no-additional cost benefit. However, the Tax Court disagreed. It disputed the tax exemptions for both types of benefits.

• The value of the tickets can’t be excluded from tax a de minimis fringe because the tickets had a value high enough that accounting for their provision was not unreasonable or administratively impracticable.
• The value of the relatives’ tickets can’t be excluded from tax as a “no-additional cost service” because the adult relatives were not the taxpayer’s dependent children in 2016.

This case demonstrates that taxpayers must stick to the strict letter of the law when tax-free fringe benefits are being claimed. Check your tax status at the gate.