Entrepreneurship often requires innovative thinking and experimentation, and success often turns upon finding creative solutions. However, employee compensation is not the proper place for experimentation and creativity. Good-hearted efforts to incentivize and reward employees through provision of perks, such as floating holidays, personal vehicle allowances, and stipends can create unexpected exposure on individual, class, and PAGA bases.
Floating Holidays and Personal Days
For example, the provision of “floating holidays” or “personal days” may be a way to reward employees, but as always, the devil is in the details. While the California Department of Labor, Division of Labor Standards Enforcement (DLSE) has characterized such policies as “an enlightened approach to employee relations,” unless the employer’s policy is carefully drafted, the paid time off will be treated as ordinary vacation days, which may not be subject to a “use it or lose it” policy and must be paid out upon termination or resignation. According to the DLSE, paid time off such as floating holidays or personal days that may be taken at will and are not contingent upon the occurrence of a specific event such as sickness, a holiday, or bereavement, will be treated as ordinary vacation. The paid time off not tied to a specific event will be deemed an earned wage when granted and cannot be taken away or expire. To be permissible and not treated as vacation, floating holidays or personal days off must be tied to a specific event, such as an anniversary or birthday, and taken either on the date of the event or if the event falls on a Saturday, Sunday, or paid holiday, it must be taken close thereto, such as within the same week.
Creative Forms of Compensation
Creative forms of compensation, such as the personal use of a company vehicle or gas card, stipends to offset high housing costs, and meals and lodging not associated with business travel, may be a welcome increase an employee’s overall compensation, but also may create wage/hour and tax issues. Under the Fair Labor Standards Act, the “regular rate” of pay includes “all remuneration for employment paid to or on behalf of the employee,” except for items that are specifically excluded by law, such as holiday gifts, expense reimbursements, discretionary bonuses, or fringe benefit/401k payments. Personal use of a company vehicle, use of a company gas card for personal trips, excessive reimbursements, or other non-expense payments are remuneration for work performed and must be included in the “regular rate of pay” for purposes of calculating overtime, meal/rest period premiums, paid sick leave, workers’ compensation benefits, and other payments.
For example, providing an employee a $100 weekly fuel stipend when they do not drive their personal vehicle for work purposes will require such payments to be treated as part of their ordinary wages and included in the regular rate of pay for wage and income tax purposes. Expense reimbursements, such as for the use of a personal vehicle, must relate to the actual expense incurred by the employee, supported by appropriate documentation, otherwise the employer risks an excess reimbursement (which must be included in wages) or failing to fully reimburse for expenses incurred in the performance of work (a violation of Labor Code section 2802). Similarly, the value of a company vehicle provided to an employee who does not drive for work will be treated as part of their wage. Thus, it is recommended that employers use the IRS mileage rate to compensate for the use, depreciation, and maintenance of the vehicle based upon the employee’s documented mileage driven for work purposes.
Tax Liability
Subterfuge to pad wages through improper or excessive expense reimbursements also presents tax liability to employers and runs the risk of the employer losing the deductibility of legitimate business expenses. Amounts paid in excess of the employee’s actual expense are taxable as ordinary wages and the failure to treat the payments as wages subject to taxation is a form of tax evasion and may be prosecuted as such. To avoid the loss of legitimate business expense deductions and ensure proper treatment of wages, it is important that the time, place, amount, and purpose of business expenses be documented and any unsubstantiated reimbursements will be treated by the IRS as wages subject to taxation.
Innovation in compensation, however welcome it may be from the perspective of the employer and employee, is fraught with risk. It is recommended to keep wages simple and increase an employee’s hourly rate or monthly salary, rather than attempting to supplement wages through additional payments, such as stipends or excessive expense reimbursements. Before implementing a compensation plan that provides for floating holidays, stipends, or other forms of pay, it is important to consult your employment law counsel to ensure your compensation package is legally compliant and your tax counsel or CPA to confirm there are no unintended tax consequences.
