Tax Question

[usagora]

Got a call from one of the company owners today saying their accountant suggested we take advantage of a loophole in the tax law regarding disaster relief payments (26 USC 139). In a nutshell, they would pay me a percentage of my 2022 annual salary up front as a tax-free "disaster relief payment" and then the remainder of salary would be paid out bi-monthly as usual. It benefits them because they don't have to pay their portion of the Social Security and Medicare payroll taxes on that amount, and it benefits me because I don't pay my portions of those, nor any income tax (federal or state) - it will not be included on my W-2.

My gut reaction was this seemed shady and I was surprised that our accountant suggested it. After all, I don't really need a disaster relief payment, and besides, this is effectively being used as compensation since it will be subtracted from my salary. On the other hand, I (along with many other Americans) didn't really "need" the stimulus checks the federal government happily sent us either. There is also no documentation required in terms of what the money is being used for. Of course, since my official salary would be reduced for 2022, I'm sure that would also impact future Social Security payments when I reach that age (I'm nowhere close at the moment), but I'm not sure if that would outweigh the tax benefit.

Thoughts? Anyone run into this situation? I'm leaning towards saying "no" (and the owner I spoke to made it clear they aren't pressuring me to do this) due to this being uncharted territory for me that makes me not a little nervous, but at the same time I don't want to shoot myself in the foot if it's all legal (which it seems to be) and puts more of my hard-earned money in my pocket.

For reference, here are some articles on the law itself:

Forbes: Little-Known Tax Law Allows Employers To Make Tax-Free Payments To Employees To Cover Covid-19 Expenses

Cohen CPA: How Employers Can Offer Disaster Relief Payments to Employees, Tax Free, During the Pandemic

Harden Insight: IRS Section 139 Qualified Disaster Relief Payments and Coronavirus

 

[KaliYoni]

I think your feeling compelled to ask anonymous people on an Internet message board about your employer's request shows you are not entirely comfortable with the request. So I'd say follow your gut and don't make any changes to your salary arrangements.

In addition, any questions that might arise over your federal, state, and local tax filings will be your problem, not your current employer's.

 

[Macky-Mac]

one of your links says;

"While there is no restriction on how much businesses can offer in aid, note that this opportunity cannot be used as a form of disguised compensation."

which seems to be exactly what your employer is wanting to do.

Reading your links it appears that Section 139 allows for "disaster relief" for new or additional expenses without the employee having to provide documentation of these expenses........and that would hide the reality that the payment is actually just replacing your salary.

I suppose your employer is counting on never having the "disaster relief" audited by the IRS.

 

[usagora]

one of your links says;

"While there is no restriction on how much businesses can offer in aid, note that this opportunity cannot be used as a form of disguised compensation."

which seems to be exactly what your employer is wanting to do.

Reading your links it appears that the program allows for "disaster relief" for new or additional expenses that are a result of a declared disaster.

Good catch (missed that when reading through them earlier). However, they don't cite any source for that claim. It's certainly not in the text of the law. And, yes, I understand what the intent of the law is - that's the whole point of the "dilemma" here. But like I said, the stimulus payments were supposed to also help Americans who were struggling due to the fallout of COVID-19, yet I wasn't struggling and still received stimulus payments. So I'm trying to think through this logically.

 

[chown33]

I'd use this as a touchstone:

Who's on the hook if things go wrong?​

In other words, would the IRS come after you, or would they come after your employer? If you're not sure, then I'd be reluctant to sign myself up for it.

There's also a possibility that Congress could decide to retroactively remove this loophole, especially if it gets used a lot in shady ways. Then you'd get the distinct pleasure of filing amended tax returns, which is another thing I'd be reluctant to sign up for.


The "Who's on the hook?" question was simple for the stimulus payments: The recipient is.

 

[Macky-Mac]

Good catch (missed that when reading through them earlier). However, they don't cite any source for that claim. It's certainly not in the text of the law. And, yes, I understand what the intent of the law is - that's the whole point of the "dilemma" here. But like I said, the stimulus payments were supposed to also help Americans who were struggling due to the fallout of COVID-19, yet I wasn't struggling and still received stimulus payments. So I'm trying to think through this logically.

I think it's misleading yourself to compare the stimulus checks to Section 139.....each has its own wording and requirements regarding eligibility.

From your link...the wording of section 139 seems pretty clear in that it's intended to provide relief for expenses directly resulting from the disaster and it gives some definition as to what that covers;

"...(b) Qualified disaster relief payment defined​

For purposes of this section, the term "qualified disaster relief payment" means any amount paid to or for the benefit of an individual-

(1) to reimburse or pay reasonable and necessary personal, family, living, or funeral expenses incurred as a result of a qualified disaster,
(2) to reimburse or pay reasonable and necessary expenses incurred for the repair or rehabilitation of a personal residence or repair or replacement of its contents to the extent that the need for such repair, rehabilitation, or replacement is attributable to a qualified disaster,
(3) by a person engaged in the furnishing or sale of transportation as a common carrier by reason of the death or personal physical injuries incurred as a result of a qualified disaster, or
(4) if such amount is paid by a Federal, State, or local government, or agency or instrumentality thereof, in connection with a qualified disaster in order to promote the general welfare,
but only to the extent any expense compensated by such payment is not otherwise compensated for by insurance or otherwise...."

(I've bolded the "incurred as a result of" bits in the quote)

As the employee, it's you (not your employer) who's claiming that the disaster created these new expenses for you. You don't have to provide documentation.....unless you get audited.

Will you be able to document that these were new expenses incurred as a result of the disaster, which just happen to match what's missing from your previous salary

 

[usagora]

I think it's misleading yourself to compare the stimulus checks to Section 139.....each has its own wording and requirements regarding eligibility.

From your link...the wording of section 139 seems pretty clear in that it's intended to provide relief for expenses directly resulting from the disaster and it gives some definition as to what that covers;



(I've bolded the "incurred as a result of" bits in the quote)

As the employee, it's you (not your employer) who's claiming that the disaster created these new expenses for you. You don't have to provide documentation.....unless you get audited.

Will you be able to document that these were new expenses incurred as a result of the disaster, which just happen to match what's missing from your previous salary

I agree. It just seems so odd to me that a certified accountant (who, btw, has been in business for many decades) is suggesting this to the owners if there is a legitimate risk of it backfiring. Like I said in my OP, I'm leaning towards "no" on this, but I just want to be sure I'm not missing any angle here.

 

[0128672]

I agree. It just seems so odd to me that a certified accountant (who, btw, has been in business for many decades) is suggesting this to the owners if there is a legitimate risk of it backfiring. Like I said in my OP, I'm leaning towards "no" on this, but I just want to be sure I'm not missing any angle here.

If it seems odd the CPA is suggesting it, maybe the CPA is benefitting somehow directly or indirectly. I agree with others here it's not worth the risk it will come back to bite you.