Using Accountable Plans to Reimburse Expenses for S-Corps
We love the benefits of having one, but could do without strict requirements - yep, we’re talking about S-Corps. An S-Corporation, or S-Corp, is a taxation election where an entity chooses to be taxed under Subchapter S of the Internal Revenue Code. For tax purposes, the entity is a “pass-through” entity, similar to a single-member LLC or partnership, but has management advantages, rigid formalities and wage payment structures that are similar to a C-Corporation.
Remember that as an S-corp owner, you are both a shareholder and an employee. An accountable plan is essentially a formal reimbursement arrangement that allows the S-Corp to reimburse employees and shareholders for business expenses they’ve incurred. Accountable Plan expense reimbursements are a great way to tax-free pull money out of your S-Corp and reduce your overall tax liabilities. Your accountable plan must meet 3 requirements to meet the IRS’ standard (and should apply Section 1.62-2(d)(1) regulations).
1) The expense must have a tight business connection. If it’s mileage, it needs to be for business-related driving. If it’s meals, it needs to be meals to meet with clients or potential clients. If it’s travel, it needs to be for business. If it’s a mixed-use expense, like home office expenses, home internet and/or cell phone, the reimbursement must be for the business-portion only. Note that a square footage based allocation method may not always be appropriate for mixed-use expenses. The IRS does allow reasonable allocation methods, and that can be the actual business-use percentage, or any other reasonable method that can be consistently applied.
2) You must substantiate the deduction with documented support. Receipts, expense exports and explanations of business purpose are key to substantiating these deductions. Speaking of which, did you know you can take pictures of receipts with the QuickBooks Online app?
3) Excess reimbursements over actual expenses must be promptly repaid. If the S-Corp’s accountable plan allows for advances to the shareholder, any excess over the actual expenses must be promptly repaid by the shareholder to the S-Corp within 120 days.
So what does all of this mean? Accountable plans provide a structured and legal way to deduct reimbursements for necessary expenses (like home office use and mileage) that would not typically be deductible by shareholders and/or employees on their personal tax return due to the change in the tax code with the Tax Cuts and Job Act. As long as the S-Corp and the shareholder/employees follow the accountable plan’s rules, the reimbursements are counted as valid business deductions, and the reimbursements are tax-free to the shareholder/employee.
Without an accountable plan, you’re operating with what’s called a non-accountable plan, and under that plan, tax law requires that these reimbursements be reported on the shareholder/employee’s W2 as taxable income. Moreover, with the Tax Cuts and Job Act, you’re not even able to deduct them as miscellaneous itemized deductions anymore, so employees would have additional income, and no additional deductions.
Need a sample accountable plan? Start here.
Revise as you see fit, and sign it. Once in place, make a schedule – every month or quarter, shareholders and/or employees should turn in detailed expense reports with receipts and explanations, and the S-Corp should pay those reimbursements to the shareholder/employee (either paper check or via payroll (as a reimbursement) will do). It’s a win-win! The S-Corp gets to deduct the expenses, and the shareholder gets a tax-free reimbursement. And that’s how it’s done! If your head is spinning, or you could use some assistance setting up your accountable plan, you know where to find us. We’re here and ready to hold your accountable plan, accountable!