Tax Court Expands Section 119 Exclusion in Boston Bruins Decision

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June 27, 2017

In a much anticipated decision, the U.S. Tax Court ruled yesterday that “the business premises of the employer” can include an off-premises facility leased by the employer when its employees are on the road.  The decision in Jacobs v. Commissioner addressed whether the employer (in this case, the professional hockey team, the Boston Bruins) was entitled to a full deduction for the meals provided to the team and staff while on the road for away games.  The debate arose after the IRS challenged the full deduction and asserted that the employer should have applied the 50% deduction disallowance applicable to meals by section 274(n) of the Code.

Under section 162 of the Code, an employer may deduct all ordinary and necessary business expenses.  However, in recognition that the cost of meals is inherently personal, the Code limits the deductions for most business meal expenses to 50% of the actual expense under section 274(n), subject to certain exceptions.  The exception at issue in Jacobs allows an employer to deduct the full cost of meals that qualify as de minimis fringe benefits under section 132(e) of the Code.  In general, this includes occasional group meals, but would not typically include frequently scheduled meals for employees travelling away from home.  (For this purpose, home is the employee’s tax home, which is typically the general area around the employee’s principal place of employment.)  However, under Treasury Regulation § 1.132-7, an employer-operated eating facility may qualify as a de minimis fringe benefit if, on an annual basis, the revenue from the facility is at least as much as the direct operating cost of the facility.  In other words, an employer may subsidize the cost of food provided in a company cafeteria, provided the cafeteria covers its own direct costs on an annual basis and meets other criteria (owned or leased by the employer, operated by the employer, located on or near the business premises of the employer, and provides meals immediately before, during, or immediately after an employee’s workday).

The Bruins’ owners argued that they were entitled to a full deduction because the banquet rooms in which employees were provided free meals qualified as an employer-operated eating facility.  That may leave some of our readers wondering, “How can a facility that is free have revenue that covers its direct operating cost?”  The key to answering that question lies in the magic found in the interface of sections 132(e)(2)(B) and section 119(b)(4) of the Code.  Under section 132(e)(2)(B), an employee is deemed to have paid an amount for the meal equal to the direct operating cost attributable to the meal if the value of the meal is excludable from the employee’s income under section 119 (meals furnished for the “convenience of the employer”) for purposes of determining whether an employer-operated eating facility covers its direct operating cost.  In turn, section 119(b)(4) provides that if more than half of the employees who are furnished meals for the convenience of the employer, all of the employees are treated as having been provided for the convenience of the employer.  Working together, if more than half the employees are provided meals for the convenience of the employer at an employer-operated eating facility, the employer may treat the eating facility as a de minimis fringe benefit, and deduct the full cost of such facility.

The IRS objected to the owners’ treatment of the banquet rooms as their employer-operated eating facilities and disallowed 50% of the meal costs.  The Tax Court succinctly explained that the Bruins’ banquet contracts constituted a lease of the rooms provided for meals and that the contracts also meant that the Bruins operated the facilities under Treasury Regulation § 1.132-7(a)(3).  In doing so, the Tax Court summarily dismissed the IRS’s argument that the payment of sales taxes meant that the contracts were not contracts for the operation of an eating facility but instead the purchase of meals served in a private setting.

Having determined that the first two criteria were satisfied, the Tax Court turned to the question of whether the hotel banquet rooms constituted the “business premises of the employer.”  The court looked to a series of cases indicating that the question was one of function rather than space.  Relying on those cases, the court determined that the hotels were the business premises of the employer because the team’s employees conducted substantial business activities there.   The court seemed to put significant weight on the fact that the team was required to participate in away games, necessitating it travel and operation of its business away from Boston.  The Tax Court was unpersuaded by the IRS’s quantitative argument that the team spent more time working at its facility in Boston than at any individual hotel and its qualitative argument that the playing of the away game was more important than the preparation for the game that took place at the hotel.

Having determined that the hotel banquet rooms were an employer-operated eating facility, the Tax Court next addressed whether it qualified as a de minimis fringe benefit because more than half of the employees who were furnished meals in the banquet rooms were able to exclude the value of such meals from income under section 119 of the Code.  The court determined that this requirement was satisfied because the meals were provided to the team and staff for substantial noncompensatory business reasons.  The business reasons included: ensuring the employees’ nutritional needs were met so that they could perform at peak levels; ensuring that consistent meals were provided to avoid gastric issues during the game; and the limited time to prepare for a game in each city given the “hectic” hockey season schedule.  Relying on the Ninth Circuit’s decision in Boyd Gaming v. Commissioner from the late 1990s, the court declined, once again, to second guess the team’s business judgment by substituting the government’s own determination.

Although the decision focuses on the specific facts and the exigencies of a traveling hockey team, the decision is of interest for other taxpayers as well.  This is especially true given the IRS’s recent increased interest in both meal deductions and the imposition of payroll tax liabilities with respect to free or discounted meals provided to employees, particularly in company cafeteria settings.  The decision expands the scope of the section 119 exclusion to meals further than the IRS’s current limited view that it applies only to remote work sites, such as oil rigs, schooners,  and camps in Alaska.   To date, the most expansive application of the exclusion in the company cafeteria setting occurred in Boyd Gaming, where a casino successfully established that its policy requiring employees to eat lunch on-site was based on security concerns and the attendant screening procedures made it necessary to provide employees with meals during their shifts.

Jacobs seems to take the analysis one step further, because many of the business reasons for providing meals to Bruins employees could be echoed by other taxpayers.  No doubt, all employers are concerned with the performance of their employees.  To that end, it could be argued that ensuring that they eat well-balanced nutritionally appropriate meals can increase performance even if the employer is more concerned with brains rather than brawn.  Indeed, given the large health insurance costs borne by many employers, employers have a legitimate interest in providing healthy meals that may reduce the incidence of obesity, diabetes, heart disease, and other chronic ailments that raise their costs.  Moreover, many employees have hectic schedules during the work day with frequent appointments, meetings, and other activities that make it necessary to maximize the time available for work during the day.   Given the Tax Court’s implicit admonition of the IRS’s attempt to substitute its own judgment regarding the employer’s business reasoning in Jacobs and the court’s refusal to substitutes its own judgment as well, the IRS likely has a more difficult road ahead if it attempts to challenge the purported business reasons that an employer provides for furnishing meals to its employees.  It remains to be seen how the IRS will react to the decision and whether it will appeal the case, which seems likely.  For now, however, the case is a positive development for employers who have made a business decision to provide meals on a free or discounted basis to their employees to increase productivity and improve their health.

Senate GOP Health Care Bill Would Retain Most Existing Health Coverage Reporting Rules

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June 23, 2017

Yesterday morning, Senate Majority Leader Mitch McConnell released a draft version of the Better Care Reconciliation Act, which would retain much of the existing health coverage reporting rules enacted as part of the Affordable Care Act.  Unlike the House bill passed on May 4, 2017 (discussed here and here), which would introduce an age-based health insurance coverage credit and corresponding information reporting requirements, the Senate bill would keep the current premium tax credit (with new restrictions effective in 2020), and leave untouched the information reporting regime under Code sections 6055 and 6056.  Thus, Applicable large employers (ALEs) would still be required to file Forms 1094-C and 1095-C pursuant to Code section 6056, even though the bill would reduce penalties for failure to comply with the employer mandate to zero beginning in 2016.  Similarly, the Senate bill does not eliminate the requirement for providers of minimum essential coverage under section 6055 to report coverage on Form 1095-B (or Form 1095-C) despite eliminating the penalty on individuals for failing to maintain coverage. The Senate bill would, however, repeal the additional Medicare tax and thereby eliminate employers’ corresponding reporting and withholding obligations beginning in 2023.

The fate of this draft bill remains uncertain, as several Republican Senators have already expressed unwillingness to support the bill, which is not expected to find any support among Senate Democrats.  We will continue to monitor further developments on the Senate bill and its impact on the information reporting regime for health insurance coverage.

IRS Releases Five CbC Reporting Agreements

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June 9, 2017

The IRS has released the first set of competent authority arrangements (CAAs) for the automatic exchange of country-by-country (CbC) reports, with Iceland, Norway, the Netherlands, New Zealand, and South Africa.  These CAAs are implemented under Action 13 of the Organization for Economic Co-Operation and Development’s (OECD) Base Erosion and Profit Shifting (BEPS) project, requiring jurisdictions to exchange standardized CbC reports beginning in 2018.  Specifically, under the OECD’s Guidance (see prior coverage regarding recent updates), multinational enterprise (MNE) groups with $750 million Euros or a near equivalent amount in domestic currency must report revenue, profit or loss, capital and accumulated earnings, and number of employees for each country in which they operate.  These CbC reports will assist each jurisdiction’s tax authorities to identify the bases of economic activity for each of these companies, in order to combat tax base erosion and profit shifting.

The CAAs are substantially similar, and each requires the competent authorities of the foreign country and the United States to exchange annually, on an automatic basis, CbC reports received from each reporting entity that is a tax resident in its jurisdiction, provided that one or more constituent entities of the reporting entity’s group is a tax resident in the other jurisdiction, or is subject to tax with respect to the business carried out through a permanent establishment in the other jurisdiction.  Each competent authority is to notify the other competent authority when it has reason to believe that CbC reporting is incorrect or incomplete or the reporting entity did not comply with its CbC reporting obligations under domestic law.

The CAAs provide an aggressive implementation schedule.  Generally, a CbC report is intended to be first exchanged with respect to fiscal years of MNEs commencing on or after January 1, 2016 (or January 1, 2017 in the case of Iceland).  This CbC report is intended to be exchanged as soon as possible and no later than 18 months after the last day of the MNE’s fiscal year to which the report relates.  For fiscal years of MNEs commencing on or after January 1, 2017 (or January 1, 2018 in the case of Iceland), the CbC reports are intended to be exchanged as soon as possible and no later than 15 months after the last day of the fiscal year.

In the United States, CbC reporting is required for U.S. persons that are the ultimate parent entity of a MNE with revenue of $850 million or more in the preceding accounting year, for taxable years beginning on or after June 30, 2016, under the IRS’s final regulations issued last summer (see prior coverage).  Reporting entities must file a new Form 8975, the “Country by Country Report,” which the IRS is currently developing.

We will provide updates upon the release of additional CAAs, the Form 8975, and OECD guidance on CbC reporting.

IRS FATCA Portal Now Accepting FFI Agreement Renewals

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June 6, 2017

Today, the IRS announced that it has updated the FATCA registration system to allow foreign financial institutions (FFIs) to renew their FFI agreements.  A new link, “Renew FFI Agreement” appears on the registration portal’s home page allowing a financial institution (FI) to determine whether it must renew its FFI agreement (see prior coverage).  The FI can review and edit its registration form and information, and renew its FFI agreement.

All FIs whose prior FFI agreement expired on December 31, 2016, and that wish to retain their Global Intermediary Identification Number (GIIN) must do so by July 31, 2017, to be treated as having in effect an FFI agreement as of January 1, 2017.  FFIs that are required to update their FFI agreement and that do not do so by July 31, 2017, will be treated as having terminated their FFI agreement as of January 1, 2017, and may be removed from the IRS’s FFI list, potentially subjecting them to withholding under FATCA.

IRS Approves First Group of Certified PEOs under Voluntary Certification Program

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June 5, 2017

Last week, the IRS announced that it issued notices of certification to 84 organizations that applied for voluntary certification as a certified professional employer organization (CPEO), nearly a year after the IRS finished implementing this program (see prior coverage).  The IRS will publish the CPEO’s name, address, and effective date of certification, once it has received the surety bond.  Applicants that have yet to receive a notice of certification will receive a decision from the IRS in the coming weeks and months.

Congress enacted Code sections 3511 and 7705 in late 2014 to establish a voluntary certification program for professional employer organizations (PEOs), which generally provide employers (customers) with payroll and employment services.  Unlike a PEO, a CPEO is treated as the employer of any individual performing services for a customer with respect to wages and other compensation paid to the individual by the CPEO.  Thus, a CPEO is solely responsible for its customers’ payroll tax—i.e., FICA, FUTA, and RRTA taxes, and Federal income tax withholding—liabilities, and is a “successor employer” who may tack onto the wages it pays to the employees to those already paid by the customers earlier in the year.  The customers remain eligible for certain wage-related credits as if they were still the common law employers of the employees.  To become and remain certified, CPEOs must meet certain tax compliance, background, experience, business location, financial reporting, bonding, and other requirements.

The impact of the CPEO program outside the payroll-tax world has been limited thus far.  For instance, certification does not provide greater flexibility for PEO sponsorship of qualified employee benefit plans.  In the employer-provided health insurance context, the certification program leaves unresolved issues for how PEOs and their customers comply with the Affordable Care Act’s employer mandate (see prior coverage).  While the ACA’s employer mandate may become effectively repealed should the Senate pass the new American Health Care Act (AHCA) after the House of Representatives did so last month (see prior coverage here and here), the AHCA would impose its own information reporting requirements on employers with respect to offers of healthcare coverage or lack of eligible healthcare coverage for their employees.  It remains to be seen if the AHCA becomes law, what information reporting requirements will remain, and how PEOs and CPEOs can alleviate these obligations for their customers.

First Friday FATCA Update

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June 2, 2017

Since our last FATCA Update, the IRS has published a reminder that foreign financial institutions (FFIs) required by FATCA to renew their FFI agreements must do so by July 31, 2017.  The IRS released an updated FFI agreement on December 30, 2016, that is effective on or after January 1, 2017 (see prior coverage).  All financial institutions (FIs) whose prior FFI agreement expired on December 31, 2016, and that wish to retain their Global Intermediary Identification Number (GIIN) must do so by July 31, 2017 to be treated as having in effect an FFI agreement as of January 1, 2017.  According to the IRS, a new “Renew FFI Agreement” link will become available on the FFI’s account homepage in a future update to the FATCA registration portal.

Generally, FATCA requires the following types of FIs to renew their FFI agreements: participating FFIs not covered by an intergovernmental agreement (IGA); reporting Model 2 FFIs; reporting Model 1 FFIs operating branches outside of Model 1 jurisdictions.  By contrast, renewal is not required for reporting Model 1 FFIs that are not operating branches outside of Model 1 jurisdictions; registered deemed-compliant FFIs (regardless of location); sponsoring entities; direct reporting non-financial foreign entities (NFFEs); and trustees of trustee-documented trust.

Since our last update, Treasury has not published any new intergovernmental agreements (IGAs), and the IRS has not published any new competent authority agreements (CAAs).  Under FATCA, IGAs come in two forms: Model 1 or Model 2.  Under a Model 1 IGA, the foreign treaty partner agrees to collect information of U.S. accountholders in foreign financial institutions (FFIs) operating within its jurisdiction and transmit the information to the IRS.  Model 1 IGAs are drafted as either reciprocal (Model 1A) agreements or nonreciprocal (Model 1B) agreements.  By contrast, Model 2 IGAs are issued in only a nonreciprocal format and require FFIs to report information directly to the IRS.

A CAA is a bilateral agreement between the United States and the treaty partner to clarify or interpret treaty provisions.  A CAA implementing an IGA typically establishes and prescribes the rules and procedures necessary to implement certain provisions in the IGA and the Tax Information Exchange Agreement, if applicable.  Specific topics include registration of the treaty partner’s financial institutions, time and manner of exchange of information, remediation and enforcement, confidentiality and data safeguards, and cost allocation.  Generally, a CAA becomes operative on the later of (1) the date the IGA enters into force, or (2) the date the CAA is signed by the competent authorities of the United States and the treaty partner.

The Treasury Department website publishes IGAs, and the IRS publishes their implementing CAAs.