Gifts to Employees – Taxable Income or Nontaxable Gift

Blog / Gifts to Employees – Taxable Income or Nontaxable Gift?

Gifts to employees or customers are a traditional way to spread cheer and thanks to people important to your business during the holiday season. But the Internal Revenue Service (IRS) says certain types of gifts are taxable, and making sure you follow the rules can avoid a Grinch-like spoiler later.

The IRS has outlined specific guidelines distinguishing between taxable and nontaxable gifts. Familiarizing yourself with these guidelines is akin to ensuring that your benevolent intentions aren’t met with unforeseen tax-related complications down the road.

Revel in the comforting knowledge that gifts and awards presented to employees serve as deductible expenses for employers – an incentive for fostering strong workplace relations.

Key Takeaways

Taxable Gifts: Cash or cash-equivalent gifts are taxable to employees.
Nontaxable Gifts: Non-cash gifts under $100 and certain awards are not taxable.
Employer Deductions: All gifts to employees are deductible as business expenses.
Customer Gifts: Business gift deductions are capped at $25 per recipient per year.
Gifts from Clients: Cash gifts from clients to employees are taxable income.
IRS Compliance: Adherence to IRS guidelines is crucial to avoid tax complications.

Taxable Income to Employees

All cash or gift cards redeemable for cash are taxable to the employee, even when given as a holiday gift.
Monetary prizes, including achievement awards, as well as non-monetary bonuses like vacation trips awarded for meeting sales goals, are taxable compensation – not just for income taxes, but also for FICA. Withholding applies.
Non-cash gifts worth more than $100 are taxable.

De minimis non-cash employee gifts are not taxable. The IRS has never quite defined “de minimis,” except to say that anything over $100 is certainly not de minimis.
The tax-free value is limited to $1,600 for all awards to one employee in a year. Gifts awarded for length of service or safety achievement are not taxable, so long as they are not cash, gift certificates or points redeemable for merchandise.

Gifts to Customers

Many companies also give gifts to highly valued customers during this time of year.

The IRS is less generous about giving companies a break on these gifts and limits how much a business can deduct to $25 in gifts per person per year. This $25 limit applies whether the gift is given directly to an individual customer or indirectly to the company, but intended for individuals.

Giving a gift to a customer’s family does not get around the limit. Those gifts are treated as though they were given to the customer and are subject to the total limit for the customer. Similarly, gifts from different members of a partnership with one person are treated as though they all are coming from one source and the total deduction is limited to $25.

A bit of good news: Incidental costs, such as engraving, packaging, insurance, and mailing generally do not count against the $25 limit.

Organization's Employees Receiving Gifts from Clients

Organizations may find that individuals or groups who benefit from the organization’s services, desire to make year-end gifts to the organization’s employees for their loyal service. Examples include the parents of private school students providing year-end gifts to their children’s teachers or a hospital patient’s desire to financially thank the medical team that provided excellent care for the patient.

While we all would like the ability to just graciously give or accept gifts from the heart without worrying about tax consequences, many questions arise regarding the tax consequences of such gifts.

Those include the status of a charitable contribution deduction for the individuals involved and the taxability of the cash received by the employee. Much depends on the process chosen for the gift giving.

While practices in the industry vary, common gift methods include:

1. Individuals giving gifts directly to the employee(s);
2. The use of a general fund created for pooling and administering the gifts directly to the employees; or
3. Gifts given to the employer organization for distribution to the employees, either from such a fund or from the individuals.

While individuals would enjoy a tax deductible charitable contribution for the gift and the employees would prefer the gift to be nontaxable to them, this sort of “double dipping” is usually not the outcome.

First, when individuals give gifts directly to employees, such payments generally do not qualify as tax-free gifts under federal law but are treated as taxable tip income, subject to income and FICA taxes, with reporting required for amounts exceeding $20 per month.

Second, contributions to a fund or charitable organization for employee gifts may allow for a charitable deduction if the organization has full control and discretion over the funds; otherwise, the tax treatment aligns with direct giving.

Third, payments made by the employer or through a fund, even when structured through a tax-exempt entity, are typically taxable to the employee as tips or wages depending on the circumstances. In all cases, organizations must ensure compliance with proper reporting, donor acknowledgment, and employee withholding requirements.

Follow IRS Rules for Holiday Gift Giving

If you run a business and your good cheer includes giving gifts to employees or customers, the IRS has been thinking about you.

Are these gifts deductible for the company?
Are they taxable for the recipient?

As usual, it depends.

Here is a brief guide to the rules. For more detail, consult your tax adviser.

Employee gifts, awards and incentives

Gifts of minimal value, such as a holiday turkey, mostly are not taxable for employees.
What’s the definition of minimal? Generally less than $100 per employee, per gift. Gifts worth more than that are taxable. Gifts awarded for length of service or safety achievement are not taxable, so long as they are not cash, gift certificates or points redeemable for merchandise. Tax-free value is, however, limited to $1,600 for all awards to one employee in a year.
On the other hand, all monetary gifts and prizes, including achievement awards, as well as non-monetary bonuses like vacation trips awarded for meeting sales goals, are taxable compensation — not just for income taxes, but also for FICA and unemployment taxes. Withholding applies.

The good news is all these gifts and awards, regardless of whether they are taxable to the employee, are deductible expenses for employers.

LBMC tax tips are provided as an informational and educational service for clients and friends of the firm. The communication is high-level and should not be considered as legal or tax advice to take any specific action. Individuals should consult with their personal tax or legal advisors before making any tax or legal-related decisions. In addition, the information and data presented are based on sources believed to be reliable, but we do not guarantee their accuracy or completeness. The information is current as of the date indicated and is subject to change without notice.