Imputed Income: What It Is and How It Is Calculated

Whether you are a business owner with employees or an employee working for an enterprise, understanding imputed income is essential for tax accuracy. As an employer, you are responsible for filing your tax reports and managing payroll for your workers. Also, employees get fringe benefits for which the IRS places taxes even though they(employees) do not pay for them(fringe benefits). Either way, both employers and employees have to deal with imputed income.

This article will enlighten you on all you need to know about imputed income and how to calculate it.

What is imputed income?

Imputed income as a concept can be a little tricky. While employers deal with the calculation and reporting, employees deal with the feeling of being wrongly taxed. It means that the IRS places a tax on benefits you receive as an employee as though you were paying directly for them. The reason is that the IRS treats every benefit, including imputed income, as taxable.

Therefore, imputed payment includes fringe benefits that accrue to employees besides their salaries that bear taxes as part of their earnings. It is a system of placing value on non-cash employee benefits to enable accurate withholdings on income taxes. Essentially, it monetizes the value of employee benefits, including cash or non-cash compensation for proper employee taxation. Such calculation is usually included in the employee's gross pay, not their net pay.

Also, such income deduction is critical for determining child support or other family legal matters. However, there are specific situations where the employee comes under an exemption by IRS policy, in which case the deduction is not included.

Since imputed income is considered taxable, your employer is responsible for reporting it in your W-2 tax form. It is not subject to federal income tax. As a result, employees are free to withhold federal income taxes from it. Alternatively, they can pay the stipulated amount when they file their tax returns.

What are some examples of imputed income?

Not all deductions are part of imputed income. Essentially, some deductible amounts are excluded. As a result, knowing many examples of both categories is essential, especially if you are an employer. This way, you can make accurate calculations and reports and avoid issues with your employees for wrongful deductions.

Some examples of deductions to include:

• Educational assistance above the nontaxable amount
• An additional domestic partner on the health insurance policy
• Group-term life insurance greater than $50,000
• Fitness incentives like gym memberships
• Employee discounts from the company
• Personal utilization of company car
• Reimbursements on moving expenses
• Adoption assistance

Interestingly several fringe benefits attract taxes. However, it depends on the value the employee receives. In contrast, other benefits are taxed irrespective of their value.

What not to include in imputed income

Generally, benefits below a certain threshold or under a specific treatment like nontaxable funds are excluded from it. Here are some examples of deductions to exclude:

• Dependents health insurance
• Adoption assistance lower than the annually adjusted amount
• Dependent care assistance lower than $5,000
• Minute and occasional employer gifts like movie tickets, birthday cake, company t-shirt, etc.
• Education assistance less than $2,500
• Health savings

It is essential to know that items included and excluded differ according to local regulations.

As an employer, you are not only restricted to reporting employee paystubs. You are also responsible for reporting other significant tax forms for your enterprise and personal income.

The catch is that employees do not pay for their benefits. However, they have to pay the tax values of the benefits as imputed income.

Why is the understanding of imputed income significant?

Employers and employees benefit from knowing as much as possible about imputed income, what it is and the calculation. Here are a few reasons:

Employee Reasons

When employees know what fringe benefits are and their tax implications, they can make informed choices to accept or decline. The reason is that not all fringe benefits are necessary. As a result, workers should be able to decide whether or not to take a fringe benefit on the grounds of necessity. This way, they can avoid unpleasant surprises on their taxable income, as discovering tax implications of a benefit afterward can be frustrating. Employees prefer to adjust their tax withholdings than earn extra tax deductions.

Employer Reasons

Dealing with much paperwork can be discouraging, especially when they involve critical calculations like taxes. So when employers do not comply with the IRS regulations for imputed income, it could lead to the additional burden of correcting the tax forms for the particular employee. Additionally, there could be penalties for wrongly calculating an employee's W-2 taxable income.

How is imputed income calculated and reported?

The calculation may vary slightly depending on the fringe benefits and pay sequence. Also, the local regulations for taxes influence the total estimate. However, in the United States, it is calculated and reported as taxable on form W-2. So, the employee's W-2 wages get a $2.66 increase per payday. For instance, a 20 percent tax rate will yield a $13 annual impact on imputed income. Just like with regular wages, employers must track employee imputed income annually.

Final Thoughts

Imputed income is a critical aspect of payroll management for employers and employees. While it saves employers from unpleasant surprises with tax deductions, it keeps the employer from repeated paperwork and IRS troubles. As a result, employers should endeavor to increase employee awareness of the penalties associated with insufficient withholdings. Hopefully, this piece helps put things in perspective for you.

FAQ: The Best Guide to Imputed Income

Why do I have imputed payment as an employee?

Every employee who receives non-cash compensation should pay tax on it. As a result, the calculated monetary value of the non-cash compensation is what you pay as imputed payment. Such calculation is included in your gross income unless you have any specific exemption.

Can I subtract imputed income for health insurance?

Yes, you can. You should calculate the estimated fair market value (FMV) of all health benefits and credit them to the employee as impute income. Examples of such health insurance include those for domestic partners or other beneficiaries that are not legal spouses or dependent under the IRS stipulation.

Is it possible for me to claim the head of house on my taxes when I live alone?

Even though there are exceptional situations, you cannot claim head of house on your taxes unless you live with an eligible dependent. Also, you should provide a minimum of half of the dependent's support.

Must employers always include imputed payment on every tax bill?

Imputed payment is taxable income. As a result, an employer must report them on the employee's W-2 form. Therefore, the employer must track the employee's imputed payment on every yearly tax bill, just like regular earnings.