The Importance of Creating an Effective Expense Reimbursement Plan

December 11, 2020 | Article

Expense reimbursements are a critical part of your year-end, and year-round, planning. A sound expense reimbursement plan not only helps your business keep proper documentation, it also helps you remain in compliance.

What is Expense Reimbursement?
When we talk about expense reimbursement, we’re referring to paying your employees back for what they spent (of their own money) on business-related expenses. The IRS defines a business-related expense as any ordinary and necessary costs for carrying out your trade or business.

Your plan should clearly outline the specifics on what you pay or reimburse to your employees. In addition, it is required to be compliant with the IRS and Department of Labor.

Steps to Creating a Strong Expense Reimbursement Plan
An Accountable Expense Reimbursement Plan

Are reimbursements taxable? The IRS orders the following conditions must be met for your business expense reimbursement to be compliant:

  • It must be a business reason. There must be a business reason for the expense. In other words, you can’t just go out for drinks and submit it for reimbursement. It must have a connection with the services your employee is performing.
  • It needs to be validated. Your employee should be able to supply receipts or invoices, through an email or in-person report, that support and document the amount and nature of the expense being submitted for reimbursement.
  • No excess. Your employees need to return any amounts paid more than the validated expenses.

When these three conditions are met, it’s referred to as an accountable plan. This is important to know, because if you have a non-accountable plan, the amounts reimbursed to your employees could be considered income and thus need to be included on the Form W-2. An accountable plan, on the other hand, allows reimbursements to not be considered taxable.

Want to know more about Form W-2?

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The Five “Ws” and a Few Other Items
Meal Reimbursements
One of the key expenses often paid through reimbursement are meals. Employees can use per diem allowances, which are allowances or resources for lodging, meals, and incidental expenses. The General Services Administration sets per diem rates within the lower 48 states.

If you’re not using a per diem allowance, the IRS has specific requirements to substantiate actual meal receipts. It’s known as the five “Ws”:

  • Who was there?
  • Why is the meal considered official business?
  • Where did the meal occur?
  • What was the cost of the meal?
  • When did the meal occur?

Learn more about deductibility of meal and entertainment expenses and how the recent COVID-19 stimulus legislation removes the usual 50% limit on deducting business meals provided by restaurants in 2021 and 2022 and makes those meals fully deductible.

Automobile Expenses
The IRS also has rules when it comes to automobile expense reimbursements. The policy related to automobile expense reimbursements must describe how your employees use a vehicle for business expenses on company time. This applies to both an automobile owned/leased by your company as well as mileage reimbursement and personal use.

Have employees who are using company automobiles for personal use?

Ensuring Your Expense Reimbursement Plan is DOL Compliant
The Department of Labor also has rules when it comes to expense reimbursements. These rules include:

  • The five “Ws”.The DOL adheres to the five Ws when documenting all expenses to be reimbursed. Further, they require your employees to provide the original receipt and written description. If the receipt is lost, your policy must state you require a signed statement from the employee regarding the lost receipt.
  • Substantiation for all. The IRS has an exception that allows you to not keep records for any expense (excluding lodging) less than $75. This is not true with the DOL. The DOL states that all reimbursed expenses must have the proper records, so you cannot skip this step.
  • For meal expenses, the DOL requires itemized receipts. In other words, the credit card slip won’t work. You need the actual ticket that details what each person ordered, as well as the credit card slip indicating how much tip was left.
  • Automobile rules. When it comes to organization-owned or leased vehicles, employees must furnish the date of travel, the number of miles driven, whether it was for personal or business and the odometer reading. If your policy also includes reimbursement for personal vehicles, the DOL states you have to have at least one record that includes the date of travel, locations traveled to and from, number of miles, and business purpose.

Why Expense Reimbursement Matters for Your Business
As you plan for year-end, make sure your policy for employee reimbursement is compliant. By setting these rules in place, you’ll ensure your employees will not only have the information they need as they travel for work but also that your business follows the IRS and DOL regulations when it comes to the taxability of reimbursement of expenses to employees.


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