COVID-19 Employee Tax Free Code Section 139 Disaster Payments
On March 13, 2020, the COVID-19 pandemic was designated as a national emergency under the Robert T. Stafford Disaster Relief and Emergency Assistance Act. This designation provides the opportunity for employees to exclude certain “qualified disaster relief payments” from their gross income under Section 139 of the federal tax code. As described further below, such qualified payments are deductible to the employer and not included in the income of the employee.
Section 139 provides that “qualified disaster relief payments” are payments to an employee for personal, family, living, or funeral expenses resulting from a “qualified disaster”, which could include expenses such as child care, medical expenses, or increased home expenses. Because the COVID-19 pandemic was designated as a national emergency, qualified payments for disaster-related expenses made as a result of the COVID-19 pandemic would not be included in the recipient’s income and are deductible to the employer.
Qualified disaster relief payments are not subject to federal income tax or employment tax withholding and do not need to be reported on an employee’s Form W-2. Such payments are also not included in determining net earnings from self-employment.
There are several limitations on qualified disaster relief payments. First, the payments must be to reimburse or pay “reasonable and necessary” expenses. If the payments are unreasonable, those excess amounts will be included in an employee’s income, and may not be deductible. Second, the payments must be for a specific expense and not intended to replace the employee’s income. If the payments are intended to replace income, they are not qualified disaster relief payments and will be included in an employee’s income. Third, payments are not treated as qualified to the extent any expense is reimbursed by insurance or another source. And fourth, an employee receiving a qualified disaster relief payment cannot claim a deduction or credit to the extent of the excluded amount.
While not explicitly required by Section 139, employers should consider adopting a written plan outlining when an employee is eligible for qualified disaster relief payments and limiting such payments only to reasonable and necessary expenses.
Given the significant economic difficulties faced by many employees, employers who wish to financially support their employees should consider making qualified disaster relief payments which, if properly structured, can provide significant tax benefits to both the employers and the employees.
Please contact James H. Combs, Honigman’s Tax Practice Group Leader, Mary A. Hennessey, Adrean S. Taylor, S. Tony Ling, or one of the other tax attorneys in Honigman’s Tax Practice Group for advice on how to implement a qualified disaster relief payment program, or other tax matters related to COVID-19 more generally.