Sorry not sorry, says the IRS on refunds of qualified transportation balances

The IRS has published a bulletin to clarify already well-known qualified transportation plan provisions. (1) In a recent letter responding to an employee inquiry, the IRS held their position regarding the distribution of unused funds from a qualified transportation account. The employee claimed that circumstances caused by the COVID-19 pandemic changed their commute resulting in a balance accumulation.

The letter also clarified, contrary to the employee’s reference, that qualified transportation fringe benefits, provided under Section 132, are not provided under a cafeteria plan and are not considered a flexible spending arrangement. These benefits permit the use of funds for qualified expenses, including commuter highway vehicles, transit passes, buses, ferries and qualified parking. These benefits are provided under a compensation reduction agreement where an employee designates a portion of their compensation to go to their qualified transportation fringe benefit provided by the employer. These benefits are permitted to be adjusted periodically and are not locked into the annual enrollment elections that other pre-tax accounts are.

Unused dollars from a qualified transportation fringe benefit can be carried over to subsequent plan year periods and used for future expenses if the employee’s expense does not exceed the monthly maximum amount excludable from taxes. However, refunds on these carryover funds are not permitted – there are no circumstances under which an employer can refund the employee for unused dollars. As the letter reinforced, the same holds true if employees are no longer in need of these funds or are ineligible due to the pandemic event.

But employers can help

So, what is an employer to do? There are some strategic steps that employers can execute to combat the loss of funds for their employees.

1. Educate your employees to have a "save, then spend" mentality.

These accounts are not designed to be savings accounts where employees are stowing away funds. Help your employees by explaining in your materials that these accounts are not intended for future use or savings growth – funds contributed and distributed through the account should fundamentally wash each month.

2. Promote the tax exemption and the risk of forfeiture.

These plans make saving on the work commute a no brainer! But that doesn’t come without the employee responsibility to actively manage month-by-month elections to ensure that there is not an abundance of funds building in the account. You can help your employees by highlighting both aspects.