As a business owner, you know the old adage is true: Sometimes, you have to spend money to make money. Then, you probably also know that not all money spent on your business comes directly from your business accounts. In some cases, you may use personal funds for business expenses, like to maintain a home office or pay your cell phone or internet. Accountable Plans are used by S Corporation shareholders to help ensure their business is able to deduct the business portion of those expenses and the owner-employee gets reimbursed for them tax-free.
In this article, we’ll delve into what an accountable plan is, why you might need one, and how to get started using this tax-saving strategy.
What is an accountable plan?
That might sound complicated, but it can really be as simple as filling out a spreadsheet to document what the business owes you, as the business owner, for your home office expenses, cell phone and internet usage, mileage, and other business-related expenses.
An accountable plan ensures the business owner (or employees) can get tax-free reimbursements for business expenses. It also allows the business to capture those deductible expenses.
Why are accountable plans helpful?
Accountable plans offer several benefits to S Corporation shareholders, including:
- Deducting shared expenses. Some expenses—your home office, cell phone, internet, and auto expenses—might be split between personal and business use. As an S-corp owner, the only way to (legally) deduct the business portion of these expenses is an accountable plan.
- Employee experience. In the work-from-home age, it’s a perk to be able to reimburse your remote employees for their home office expenses. It’s a deduction for you and tax-free income for them.
- Tax savings. When you reimburse eligible expenses, you deduct them as business expenses, reducing your gross income and paying less in taxes. Plus, reimbursements made through an accountable plan aren’t considered taxable income for the recipient. This makes it a tax-efficient way to cover business expenses.
- Compliance. Following an accountable plan ensures you adhere to IRS regulations, reducing the risk of audits or penalties. If you reimburse yourself without an accountable plan in place, the IRS could recharacterize those payments as wages.
Why do S Corp shareholders need an accountable plan?
Any S-Corporation shareholder who pays for business expenses personally or wants to reimburse employees for such expenses—should have an accountable plan. Some common expenses you might need to reimburse include:
- Home office expenses. If you’re an S corporation owner with a qualifying home office, the company can pay you for the home office under an accountable plan. This is a deduction for the business and allows S corporation shareholders to get money out of the company tax-free.
- Telephone and internet. Many people use their personal cell phone and home internet for both work and personal calls, email and other tasks. An accountable plan lets you reimburse the business portion of your cell phone bill and home internet and deduct it as a business expense.
- Mileage. If you or your employees use a personal vehicle for business-related tasks, an accountable plan can provide tax-free reimbursement for car expenses while ensuring the business is able to deduct the mileage as a business expense.
Normally, S corp shareholders won’t need reimbursement for the following items because they’ll pay for them directly from the business. However, these items below may come up if the owner accidentally used a personal card. Or if a non-shareholder employee incurred expenses on behalf of the business.
- Travel expenses. If employees take business trips, an accountable plan helps them recover the cost of hotel, meals, and transportation.
- Office supplies. If your staff uses personal funds to purchase office supplies, they will benefit from this.
- Business meals. Employees take clients or customers out to restaurants, bars and coffee shops. An accountable plan can help recover the meal expenses.
How to set up an accountable plan
Before you start reimbursing yourself or your team for business expenses, it’s important to set up your accountable plan the right way. If you don’t, you’re at risk of running afoul of the IRS’s accountable plan rules and having to add reimbursements to employee wages for income tax and Social Security tax purposes.
Here’s what you need to know:
Put your accountable plan in writing
You’re not required to have a written plan. But, putting it in writing will make it easier to communicate your rules to employees and prove the plan is valid in the event of an audit. If you do enact a written plan, make sure your written plan:
- Covers the kinds of business purchases that are eligible for reimbursement. To be reimbursable, the expense must have a business connection and be a reasonable amount. You can’t reimburse personal expenses under accountable plans.
- Requires employees to submit expense reports within a reasonable period of time. Employees should submit an expense report for reimbursement within a reasonable period of time from the date of the expense.
- Explains the documentation required to substantiate expenses. Employees should include receipts or mileage logs with their expense report. You can set a threshold for small amounts. For example, your accountable plan might specify that employees don’t have to submit receipts for expenses under $20. This arrangement allows employees to get reimbursed for tips and small expenses without the hassle of providing supporting documentation.
- Addresses what happens with excess reimbursements. Employees who receive an excess reimbursement must promptly return the excess amount to the company within a reasonable period.
Make sure to include home office expenses in your accountable plan
Include a home office section of your expense report. Calculate the business portion of your home by dividing the square footage of the office area by the total square footage of your home. Then list reimbursable home office expenses paid during the month, such as your mortgage interest or rent, property taxes, homeowners or renters insurance, utilities, etc. Then, multiply these expenses by your business use percentage to determine the amount eligible for reimbursement.
Handle accountable plan expense reimbursements correctly
Make sure your accountable plan reimbursements are separate from wages. Also, make certain the reimbursements are in addition to any regular compensation. For example, if an employee usually receives $200 per day in wages and takes a business trip where they incur $50 of reimbursable expenses, you can’t treat $50 as a tax-free reimbursement and report $150 of taxable income.
If you are reimbursing yourself, you can simply make a transfer from your business account to your personal account for your expense report, or process the reimbursement like you would for an employee.
Adequately account for accountable plan reimbursements paid
The IRS requires businesses to keep proper substantiation for every expense reimbursement. Keep good records of all eligible expenses, including receipts and supporting documentation. Adequate accounting includes the amounts paid, the date, and the business purpose.
Make sure you save reimbursement requests with proper documentation. For example, if you’re reimbursing yourself for home office expenses, you should save the Form 1098 from your mortgage company, utility bills, receipts for home maintenance and repairs, etc.
Avoid having your reimbursements considered “non-accountable”
If you reimburse employees without meeting these guidelines, the reimbursement is considered to have happened under a non-accountable plan. In other words, it’s income to the employee, and you have to include it in their W-2 wages with appropriate tax withholding.
Get help setting up or maintaining your accountable plan
As you can see, an accountable plan is a necessary tool for S Corporation shareholders and employees looking to deduct all of the everyday expenses necessary to keep a business running while complying with IRS rules. By setting up and maintaining an accountable plan, you can get back the money you spend on these items while lowering your tax bill—that’s what we like to call a win/win!
If you need help with setting up an accountable plan or confirming you’re using it properly, please reach out. At Countless, we can help ensure your accountable plan is the right fit for your business.