Federally Declared Disaster Brings Options for Employers
As a result of the major flooding across the Midwest, President Trump declared a state of “major disaster” in Nebraska on Friday, March 22, and in Iowa on Monday, March 25. This designation brings several special tools for employers to assist their employees who have been impacted.
PTO Donation Policy
One option is to develop and implement a qualified employer-sponsored paid time off (“PTO”) donation policy or leave-sharing plan. As a result of the President’s declaration of a “major disaster” in Nebraska and in Iowa, employers may assist employees affected by the floods by implementing and maintaining a qualified PTO leave-sharing plan.
These plans offer certain tax benefits to employees who donate their unused leave time to employees affected by a major disaster. Generally, without a qualified plan or policy, both the donor employee and the recipient employee would be subject to income tax on the value of the donated leave. To avoid these adverse tax consequences, an employer may maintain a qualified, written policy or plan for employee leave donations. Qualified leave-sharing plans can be used to assist employees affected by a federally declared disaster or to support employees suffering from medical emergencies, as defined by the Internal Revenue Service (“IRS”).
Employees adversely affected by the flood disasters in Nebraska and Iowa must use the donated leave time for purposes related to the disaster and may not convert the leave time into cash in lieu of using the leave. An employee is considered to be adversely affected by a major disaster if the disaster has caused “severe hardship” to the employee or a family member of the employee that requires the employee to be absent from work. The employer’s plan must adopt a reasonable limit (based on the severity of the disaster) on the period of time during which leave donors may deposit leave in the bank and on the period of time for which a leave recipient must use the leave received.
Amounts paid to a leave recipient pursuant to a qualified leave-sharing plan are includable in the gross income of the recipient as compensation for services provided by that recipient. Such amounts are considered “wages” for employment tax and income withholding purposes. Notably, however, the employee who surrenders leave to the employer pursuant to a qualified leave-sharing plan does not realize any income and incurs no deductible expense or loss upon such surrender or deposit. IRS Notice 2006-59 outlines the specific requirements for implementing a qualified leave-sharing plan. To qualify for such tax benefits, it is important that employers maintain leave-sharing plans pursuant to such requirements.
Another alternative is the IRS’s allowance of individuals to take hardship withdrawals from the elective deferrals (and any earnings thereon, for Code Section 401(k) plans) they’ve contributed to their 401(k), 403(b), or 457(b) plans if the distribution is on account of an “immediate and heavy financial need.” A distribution is deemed to be made on account of an “immediate and heavy financial need” if made for, in relevant part–
- Expenses for the repair of damage to the employee’s principal residence that would qualify for the casualty deduction under Section 165 (determined without regard to the requirement that the deduction be made for a Federally Declared Disaster); or
- Expenses and losses (including loss of income) incurred by the employee on account of a Federally Declared Disaster (if the employee’s principal residence or principal place of employment was located in an area designated for individual assistance). Prop. Treas. Reg. § 1.401(k)-1(d)(3).
An employer’s retirement plan must expressly permit hardship withdrawals, and employers’ 401(k) plans should be amended to account for the recent changes made to hardship withdrawals by the Bipartisan Budget Act. If an employer’s retirement plan expressly permits hardship withdrawals, employees affected by the flood disasters in Iowa and in Nebraska may take a hardship distribution from their plan accounts.
Disaster Relief Payments
Finally, employers may make direct “qualified disaster relief payments” to affected employees. Such payments are excludable from employees’ gross incomes and are not subject to withholding or employment taxes. A “qualified disaster” means a federally declared disaster, and a “qualified disaster relief payment” means any amount paid to or for the benefit of an individual to (1) reimburse or pay reasonable and necessary personal, family, living, or funeral expenses incurred as a result of a qualified disaster, or (2) reimburse or pay reasonable and necessary expenses incurred for the repair or rehabilitation of a personal residence or repair or replacement of its contents to the extent that the need for such repair, rehabilitation, or replacement is attributable to a qualified disaster. Qualified disaster relief payments may not reimburse employees for damages or expenses covered by insurance, and an employer may not deduct qualified disaster relief payments.
Due to the circumstances surrounding a qualified disaster, employees are not required to account for actual expenses in order to qualify for the exclusion, provided that the amount of the payments can be reasonably expected to be in line with the expenses actually incurred. Employers should nonetheless consider obtaining certifications from employees setting forth the expenses covered by the payment (i.e., temporary lodging, meals, home repairs, etc.) and that the expenses are not reimbursable by insurance or otherwise.