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What Fringe Benefits Am I Paying Taxes On? 
 
by kmhagen July 22, 2005

Cafeteria Plans

A cafeteria plan allows employees to choose between receiving cash or taxable benefits instead of certain qualified benefits that could be excluded from tax.

Taxability of Qualified Benefits

If an employee chooses a qualified benefit, the fact that cash or a taxable benefit could have been chosen does not make the qualified benefit taxable. Therefore, qualified benefits provided under a cafeteria plan can be tax-free. Cash payments or unqualified benefits would be taxable.

What Can Be Included

Cafeteria plans do not normally include any deferred payment benefit plans, although they can include a qualified 401(k) plan. Other qualified benefits that could be included in cafeteria plans are accident and health benefits (but not medical savings accounts or long-term care assistance), adoption assistance, dependent care assistance, and group-term life insurance coverage.

What Cannot Be Included

A cafeteria plan cannot include Archer medical savings accounts, athletic facilities, de minimus benefits, educational assistance, employee discounts, lodging on business premises, meals, moving expense reimbursements, no-additional-cost services, transportation (commuting) benefits, tuition reduction, working condition benefits, or scholarships or fellowships. These benefits are treated separately.

Plans that Favor Highly Compensated Employees

If a cafeteria plan favors highly-compensated employees, in terms of eligibility to participate, and the contributions and benefits provided, the beneficiaries’ compensation will include the value of the taxable benefits they could have selected. Highly compensated employees, for this purpose, include officers and shareholders who own more than 5% of the employer’s stock, employees who are highly compensated based on the facts and circumstances, and the spouses and dependents of any of these employees.

Plans that Favor Key Employees

As in the case of highly-compensated employees, if a plan favors key employees, they are taxed on the value of taxable benefits they could have selected. A plan is considered to favor key employees if more than 25% of the total nontaxable benefits go to key employees. Key employees include officers who receive annual pay over a certain amount, employees who own at least 5% of the business, and employees who own at least 1% of the business and receive annual pay over a certain amount. The amounts may change year by year, and are published by the Internal Revenue Service.

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