A special set of federal income tax rules applies to fringe benefits provided by a partnership to its partners in exchange for their services to the business. The same set of rules also applies to multi-member LLCs (meaning LLCs with more than one owner), because they are treated as partnerships for federal tax purposes. With this background in mind, here is a summary of the tax treatment of fringe benefits provided by a partnership to its partners or LLC to its members.
Fringes Treated as Taxable Guaranteed Payments
The cost of providing the following fringes to a partner or LLC member in exchange for services are treated as deductible guaranteed payments made by the entity and taxable income from guaranteed payments for the recipient:
- Premiums for accident and health insurance coverage for the partners and members, their spouses, and dependents.
- Group term life insurance coverage of up to $50,000.
- Disability insurance coverage.
- Meals or lodging furnished for the convenience of the partnership or LLC as the employer (for this purpose, partners or LLC members are considered employees).
- Cafeteria benefit plan.
- Qualified transportation fringes.
- Qualified adoption assistance program.
Each partner or LLC member can deduct 100 percent of their company-paid health insurance premiums on page 1 of Form 1040. (Sources: IRS Revenue Ruling 91-26 and IRC Section 162(l). However, the partner or LLC member is not entitled to any personal deductions for the other company-paid fringes listed above.
Tax-Free Fringes
When the fringe benefits listed are provided by the partnership or LLC to a partner or member in exchange for services, the benefits qualify for tax-favored treatment. This means the company can deduct the costs of providing these benefits and they are tax free to the recipient for federal income tax purposes, assuming the basic qualification rules are met:
- Qualified educational assistance program.
- Qualified dependent care assistance program.
- No‑additional‑cost services. For example, an airline might allow its employees to fly in empty seats without paying for tickets.
- Qualified employee discounts (for this purpose, partners or LLC members are treated as employees).
- Working condition fringe benefits, such as meals provided for the convenience of the company.
- De minimis fringe benefits such as the personal use of a company copy machine and small, non-cash gifts.
- On‑premises athletic facilities.
Other Benefits
If a partnership or LLC provides fringe benefits not specifically mentioned in this article; for example, season tickets to sporting events, the cost is considered a guaranteed payment to the recipient partner or LLC member. As such, the cost is deducted by the partnership and reported as taxable income by the recipient. It is important to understand special rules for partners and LLC members do not affect tax treatment of fringes provided to rank-and-file employees. Typically, it is easier to provide perks to these workers on a tax-free basis.