What Is Imputed Income and How Does It Work?

Running payroll involves a lot more than calculating an employee’s wages or salary every pay period. In addition to overtime pay, differential pay, benefits deductions, and tax withholding, your organization also needs to track on-monetary benefits, also known as imputed income.

Imputed income is a key aspect of an employee’s pay — including personal use of a company car or long-term disability insurance (LTD). The federal government considers these benefits as part of an employee’s total compensation and designates them as taxable income.

However, imputed income benefits are different from perks like health insurance or rewards for good performance. The differences can be quite specific and confusing at times, but it’s important for HR teams to understand them to avoid penalties and ensure proper accounting. As an employer, reporting imputed income can also provide  transparency about the total value you’re providing your employees.

Let’s look at what imputed income means, what qualifies, and how you can track and report it for your organization.

What Is Imputed Income?

Imputed income is a type of non-monetary benefit provided by an employer to an employee. It is often associated with fringe benefits, but  other types of benefits do qualify. Even though this income isn’t cash paid directly to the employee, the value of the non-monetary benefit is considered taxable income (as it is part of an employee’s total compensation).

For this reason, imputed income should be reported as part of an employee’s gross income. It should not be added to the employee’s net income, since the benefit has already been provided in a non-monetary form.

Imputed Income Examples

Some examples of imputed income include:

• Company vehicles - If an employer provides a vehicle for the employee to use for both personal and business activities (one they take home at the end of the day), this is considered imputed income. The IRS has a specific formula for calculating its value, directly related to the value of the car itself. In basic terms, employees must pay taxes on the amount it would cost to lease the same car.
• Company housing - Lodging provided to an employee during any period of their employment.
• Discounts, perks, memberships - The cost and value of perks or memberships provided to employees (e.g. gym memberships).
• HSA contributions - Any contributions an employer makes to an employee’s Health Savings Account (HSA) must be reported as imputed income.
• Long-term disability (LTD) - Even when it’s taken as a pre-tax benefit, LTD insurance plans should be considered imputed income. You’ll need to report the annual cost of the plan on an employee’s W2.
• Moving expense reimbursements - The costs associated with moving or relocating an employee.
• Adoption assistance - As of 2023, this is any amount of adoption assistance over $15,950 (per child).
• Dependent care support - Any amount of dependent care support provided to an employee (over $5,000).
• Group term life insurance - Group term life insurance (over $50,000 annually) provided to an employee.
• Educational assistance / Tuition - Reimbursement for an employee’s tuition or education resources over $5,250 in a given year.
• Student loan debt forgiveness - These programs are considered imputed income as well, no matter how much relief is provided.

These benefits are taxed at the standard federal tax rate. However, when the benefit value exceeds $1 million dollars, the tax rate increases to 37%.

Which Benefits Are NOT Considered Imputed Income?

Many forms of non-monetary benefits are taxable. However, some benefits may seem like they would qualify, but don’t, and it’s important to know the difference to report them accurately. Some examples include:

• Health insurance - Health insurance benefits for an employee or their dependents are not considered imputed income. These premiums are pre-tax deductions and the IRS does not consider them taxable. The exception here is with domestic partnerships. As of 2023, the IRS does not recognize a person in a domestic partnership as a dependent. However, a company may choose to allow employees to provide health insurance for partners in this way, which would still be considered taxable, imputed income.
• 401(k) Contributions - Employer contributions to an employee’s 401(k) are not considered imputed income. Since the employee does not “receive” the benefit until they withdraw from the account (typically when they retire), the amount would not be taxable during the year in which it was contributed.
• Benefits below the limits listed above - Any amount of dependent care assistance under $5,000, group term life insurance under $50,000, education assistance under $5,250, or adoption assistance below the annually adjusted amount is not considered imputed income and is not taxable.
• Small gifts - Occasional gifts to employees (e.g. game tickets, food for a birthday party, meals, company swag, etc.) are not considered imputed income.

De Minimis Benefits

A whole category of non-monetary fringe benefits is not considered worthwhile by the IRS to track or tax. These benefits are called “de minimis,” which is Latin for “related to minimal things” or “of minimal importance.” These benefits are not considered imputed income.

De minimis fringe benefits include:

• Employee snacks, meals, or coffee
• Parties for employees (for birthdays, good performance, etc.)
• Small gifts with low value
• Holiday gifts
• Gifts for special circumstances (e.g. flowers for a funeral)
• Company-branded swag (t-shirts, bracelets, bags, etc.)
• Occasional tickets to entertainment events (movies, sporting events, etc.)
• Transportation expenses for working overtime
• Personal use of a business cell phone provided by an employer
• Occasional use of an office copier or printer

You can usually consider something a de minimis benefit if it has low value and low frequency. However, to be sure, consult with a lawyer experienced in employment law.

Why Imputed Income Matters

There are several implications for imputed income that matter for both employers and employees.

1. It’s the Law

The IRS requires employers to report imputed income for each employee on their W2. Failing to do so (or failing to do it properly) can result in fines up to $550 per W2, with no limit to the amount an employer can be fined. Multiply that by all the employees on your roster, and you’re facing a huge (but preventable) loss.

2. Employees Need the Information

Employees need to know their imputed income to file their taxes correctly. You must report it in boxes 1, 3, and 5 on their W2, calculating the total value of these benefits in box 14 — every single year. NOTE: For agricultural employees, this information must be reported with Form 943.

If you don’t properly report imputed income to your W2s, your employees could file their taxes incorrectly and face an audit or penalties. The calculations aren’t always straightforward, so pay attention to the formulas provided for each type of benefit.

Whenever possible, provide your employees with the expected amount of imputed income that will be on their W2 at the end of the year. This will help them to make an informed decision around withholding taxes from their paychecks.

3. It Affects Payroll and Accounting

Imputed income must be considered part of an employee’s gross income to be properly taxed, which could affect your payroll process. If an employee decides to withhold taxes to account for imputed income, you’ll need a way to automatically add this information to paychecks and W2s. You’ll then need to report this information for accounting and other reports. The best way to do so is with specialized payroll or HR software and ERP software.

How To Track and Report Imputed Income

It doesn’t matter how often you report imputed income, as long as it’s reported annually on W2s. However, you may be too busy to gather all this data at the end of every year.

For this reason, it’s often best to keep track of this data automatically on a regular basis (even for every pay period). Criterion HCM offers several ways you can track and report imputed income more efficiently.

Method 1: Create Benefits Packages

In Criterion, you can create custom benefits packages to deploy to specific employees. For instance, you might create a benefits package that includes specific long-term disability plans, rewards and recognition programs, etc. In these packages, specify which benefits are considered imputed income, assigning the correct monetary value where it’s predictable.

Once these packages are applied to specific employees, the value of that imputed income can be automatically calculated on paychecks and routed to W2s for end-of-year processing.

Method 2: Create Custom Fields

In Criterion, you can create custom fields to attach to employee profiles. You can denote specific values for company vehicles, housing, and other qualifying benefits for imputed income. This is particularly useful for benefits that aren’t totally predictable and need to be calculated manually (like large gifts, vehicle usage, etc.).

You can then configure the system to route the information in these custom fields to your ERP (fully integrated with Criterion’s open API) for proper accounting across platforms. This makes it easy to generate fully compliant W2s and paychecks, conduct labor cost allocation, and create custom reports.

Final Thoughts

Reporting imputed income may seem like you’re nickel-and-diming employees. But it’s essential for proper accounting and payroll compliance. However, reporting and tracking imputed income manually for each pay period will almost certainly be time-consuming, difficult, and error-prone. A modern payroll solution can ensure you can do so properly and efficiently every time.

At Criterion, we developed our HCM to eliminate that difficulty and complexity. We provide several unique calculations within the software already. Plus, by creating custom fields and reports and integrating with any ERP or third-party software, you can customize your payroll workflow and improve accounting at every turn.

Imputed income is just one challenge Criterion can solve for your team. Book a demo of Criterion HCM to see how we handle complex payroll challenges for companies in every industry.