## Facts

- The IRS addressed whether certain employer payment arrangements qualify as reimbursements under an “accountable plan” under I.R.C. § 62(c) and Treas. Reg. § 1.62-2, focusing on the “business connection” requirement.
- Situation 1 (Employer A): Cable technicians were paid an hourly wage reflecting required employee-provided tools; the employer then reduced taxable wages and paid an hourly “tool rate” treated as nontaxable, designed to keep total pay approximately unchanged and to stop once substantiated expenses were fully paid.
- Situation 2 (Employer B): Nurses were paid the same hourly rate regardless of location; when a nurse worked away from the nurse’s tax home, the employer relabeled part of the same hourly pay as a nontaxable per diem and treated the remainder as wages.
- Situation 3 (Employer C): Construction workers were paid hourly wages; the employer additionally paid all workers a flat “mileage reimbursement” treated as nontaxable, including workers who incurred no business mileage.
- Situation 4 (Employer D): Cleaners were paid hourly wages reflecting required employee-provided supplies; the employer lowered the wage rate for all cleaners and offered an optional reimbursement treated as nontaxable for cleaning products/equipment costs actually incurred and claimed.

## Issues

1. Whether an arrangement that recharacterizes taxable wages as nontaxable reimbursements or allowances satisfies the accountable plan “business connection” requirement under I.R.C. § 62(c) and Treas. Reg. § 1.62-2.
2. Whether the payments in each of the four situations are excludable reimbursements under an accountable plan or instead must be treated as taxable wages.

## Decision

- Situation 1: The “tool plan” failed the business-connection requirement; the tool-rate payments were wages.
- Situation 2: The per diem arrangement failed to the extent it merely relabeled part of existing hourly compensation as per diem; the amounts were wages.
- Situation 3: Flat mileage amounts paid to workers who did not incur business mileage failed the business-connection requirement; those amounts were wages.
- Situation 4: The arrangement did not impermissibly recharacterize wages and could satisfy the business-connection requirement to the extent payments reimbursed actual job-required expenses and the arrangement otherwise met accountable plan rules (substantiation and return of excess).

## Legal Principles

- An arrangement is an accountable plan only if it satisfies: (1) business connection, (2) substantiation, and (3) return of excess amounts. Treas. Reg. § 1.62-2.
- “Business connection” requires that amounts be paid for deductible employee business expenses incurred in connection with services performed for the employer; labels (e.g., “per diem,” “tool reimbursement”) do not control.
- Payments that keep total compensation essentially unchanged by splitting or relabeling wages into “reimbursements” are treated as wage recharacterization and fail the business-connection requirement.
- Payments made without regard to whether an employee incurred the relevant deductible business expense (e.g., paid to non-incurring employees) are not paid solely for employee business expenses and fail the business-connection requirement.
- Reimbursements tied to actual, job-required expenses can satisfy business connection even if base wages are set lower, provided reimbursements depend on incurrence and proper substantiation and excess-return rules are satisfied.

## Conclusion

The IRS concluded that wage-recharacterization arrangements generally do not qualify as accountable plans because they lack a genuine business connection to deductible employee expenses, making the payments taxable wages; however, reimbursements that are conditioned on and limited to actual, substantiated, job-required expenses may qualify under the accountable plan rules.


Rev. Rul. 2012-25, 2012-2 C.B. 337 (2012)