Jeremy Wells

This $600,000 Lesson Proves You Can’t Outsource Your Filing Deadline

Earmark Team · February 17, 2026 ·

Wayne Lee, a Florida surgeon, hired CPA Kevin Walsh to prepare and file his tax returns. From 2014 through 2016, Wayne provided Kevin with all necessary documents and signed Form 8879 e-file authorizations each year. As far as Wayne knew, Kevin was doing exactly what he’d been hired to do: preparing and filing returns, each showing mid-six-figure tax liabilities but also substantial refunds due.

Wayne discovered the truth on December 5, 2018, when an IRS agent showed up at his office. Kevin had never filed any of those returns. He’d never told Wayne about a software issue that supposedly prevented e-filing. The IRS notices had piled up at an incorrect address that Kevin promised but failed to update. By the time Wayne discovered the problem, the three-year statute of limitations had expired on his $288,000 refund from 2014. Instead of rolling that refund forward as planned, Wayne ended up paying $289,000 to the IRS in 2019 to settle unpaid liabilities, penalties, and interest.

Wayne sued Kevin (settling out of court) and the federal government for a refund. The government won.

In a recent episode of Tax in Action, host Jeremy Wells, CPA, EA, uses Wayne’s case to explore a principle the Supreme Court established decades ago: you can delegate tax return preparation, but you can’t delegate responsibility for filing deadlines. Understanding this distinction and the penalties that follow when taxpayers miss deadlines is crucial for tax professionals and their clients.

How Failure to File and Failure to Pay Penalties Work

The penalties Wayne faced were calculated additions to tax that accrued interest and turned a potentially manageable balance into a serious financial burden.

The failure to file penalty under IRC Section 6651(a)(1) is the more severe of the two delinquency penalties. It’s 5% of the net amount due for each month or fraction of a month the return is late. That “fraction of a month” language carries real weight. File your return one day late, and you owe a full month’s penalty. The penalty maxes out at 25% of the net amount due, unless fraud is involved. In fraud cases, the penalty jumps to 15% per month with a 75% ceiling.

“The net amount due means the tax liability shown on the return less any withholding credits, estimated payments, or any other payments made on or before the due date,” Wells explains, emphasizing a critical point. This definition, from IRC Section 6651(b)(1), means even if you can’t file on time, making payments reduces the base amount for penalty calculations.

The failure to pay penalty under IRC Section 6651(a)(2) is gentler at 0.5% per month, but it comes with its own trap. As Wells explains, “An extension of time to file is never an extension of time to pay.” Treasury Regulation 1.6081-4(c) makes this explicit. That six-month extension gives you time to finish the paperwork, not time to find the money.

When both penalties apply, as in the case of an unfiled return with an unpaid balance, they don’t stack. The failure to file penalty gets reduced by the failure to pay amount, keeping the combined rate at 5% per month. But both count as “additions to tax,” meaning interest accrues on the penalties themselves, compounding the total amount owed over time.

The math drives the strategy. As Wells puts it, “Why pay 5% when you only have to pay 0.5%?” Always file on time, even with a balance due. Always request extensions if you need more preparation time. And make estimated payments before April 15th to reduce the net amount due that serves as the penalty base.

Partnerships and S Corporations Face Different Rules

Pass-through entities don’t pay income tax directly, so there’s no failure to pay penalty. But their failure to file penalties can be devastating.

Under IRC Sections 6698 (partnerships) and 6699 (S corporations), the penalty is an inflation-indexed amount per partner or shareholder, per month the return is late. For 2025, that’s $245 per partner or shareholder, increasing to $255 in 2026 and $260 in 2027.

Wells stresses the multiplication effect. “By definition, a partnership has at least two partners. So if you have a late 1065, then at a minimum, the penalty will be doubled.” A small partnership with four partners and a three-month late filing would owe nearly $3,000 in penalties for 2025.

The penalty amount is determined by the year the return should be filed, not the tax year of the return. So if you file a 2024 partnership return late in 2025, you use the 2025 penalty amount.

Relying on Your Tax Professional Won’t Save You

Wayne’s defense seemed reasonable. He hired a licensed CPA, signed e-file authorizations, provided all documents, and was repeatedly assured his returns were being handled. Surely that demonstrates ordinary business care?

The courts said no, following precedent from United States v. Boyle (1985). In that case, the Supreme Court reversed an appeals court that sided with a taxpayer whose attorney missed an estate tax filing deadline. The Supreme Court held that taxpayers cannot delegate filing and payment deadlines to professionals.

When Wayne’s case reached the 11th Circuit in 2023, his attorneys argued that e-filing changes this dynamic. If only the professional can electronically submit returns, doesn’t that shift responsibility? The court rejected this argument entirely. “E-filing does not change the taxpayer’s duty,” they ruled.

So what actually qualifies as reasonable cause? The IRS outlines acceptable categories in Internal Revenue Manual 20.1.1.3.2:

Death or serious illness of the taxpayer, immediate family member, or key employee within an organization (not an outside professional)
Fire, casualty, or natural disaster directly causing non-compliance
Legitimate inability to obtain essential records after reasonable efforts (poor recordkeeping doesn’t count)
Reliance on erroneous written IRS advice specifically addressing your situation
Ignorance of the law, but only if you had no prior filing requirement, tried to learn the law, and the issue was genuinely complex

Wells notes a crucial limitation: if you’re “demonstrably competent enough to carry on other transactions,” like hiring and working with a tax professional, “reasonable cause won’t work.”

The message is clear: tax professionals can prepare returns and provide advice, but the legal duty to ensure filing and payment remains with the taxpayer.

First-Time Abatement Is Your Best Shot at Relief

While reasonable cause rarely succeeds, taxpayers have another option that’s often more accessible: First-Time Abatement (FTA).

The IRS evaluates penalty relief requests in a specific order, outlined in IRM Chapter 20:

Correction of IRS error
Statutory and regulatory exceptions
Administrative waivers (including FTA)
Reasonable cause

Notice that FTA comes before reasonable cause, even though reasonable cause is statutory. The National Taxpayer Advocate has criticized this ordering, but for taxpayers, it creates opportunity.

FTA covers failure to file, failure to pay, and failure to deposit penalties, but not the underpayment penalty. To qualify, you need:

Clean penalty history for three prior years (no unreversed penalties)
All required returns filed
Tax paid or payment arrangement in place

A critical change occurred in March 2023. “If you have a taxpayer with a relatively small penalty and you don’t ask for first time abatement, and then the following year they get an even bigger penalty, first time abatement is not available because it should have been used on that first penalty,” Wells explains.

The old strategy of “saving” FTA for a potentially larger future penalty no longer works. Use it when you’re eligible, or lose it.

Timing matters for requesting FTA. You can’t abate a penalty before it’s assessed, so wait for the notice—typically a CP14 or CP162. Get Form 8821 or 2848 authorization from clients and check the box to have notices forwarded to your office. When the notice arrives, respond immediately or call the Practitioner Priority Service for faster resolution.

Good news is coming: the National Taxpayer Advocate announced that starting with tax year 2025 returns, the IRS will begin automatically applying FTA to eligible penalties. Until then, it remains a manual process.

Protecting Yourself and Your Clients

“Penalty abatement is really less about proving innocence and more about understanding the timing, the procedures and how the IRS operates,” Wells says to summarize the episode’s overarching message.

For tax professionals, this means building clear communication into every client engagement. Clients must understand that while you prepare returns, they’re still responsible for confirming filing and payment. This isn’t about avoiding responsibility; it’s about accurately representing how tax law works.

Wayne Lee did everything a reasonable person would do, yet still lost nearly $600,000. His case is a reminder that in tax compliance, good intentions and professional help aren’t enough. The responsibility to file and pay on time ultimately rests with the taxpayer, and they can’t delegate that duty.

Listen to the full episode of Tax in Action for Jeremy’s’ complete analysis of IRC Section 6651, including detailed penalty calculations and step-by-step guidance for requesting abatement.

Your Client’s Non-Cash Donation Documentation Is Probably Missing These Critical Details

Earmark Team · February 9, 2026 ·

A married couple donated used goods worth $6,760 to charity. They filed Form 8283 with their 2019 tax return. The IRS examined the return, the case ended up in Tax Court, and the entire deduction was disallowed.

What makes this case remarkable is that neither the IRS nor the Tax Court ever claimed the donation didn’t happen. Both sides agreed the contribution was real and made to a qualifying organization. The taxpayers lost anyway.

In this episode of Tax in Action, host Jeremy Wells breaks down the Besaw v. Commissioner case to reveal what went wrong. It comes down to something every tax practitioner has seen.

“When you help people with tax returns, and you ask them to upload their documents around tax time, and you get a slew of these blank Goodwill receipts,” Wells explains, “the taxpayer’s expecting some sort of tax benefit from all that. And you’re looking at that thinking, I can’t do anything with this.”

When Good Donations Go Bad

The timeline of the Besaw case reads like a warning every tax practitioner should remember.

In 2019, the Besaws filed their joint federal income tax return claiming $6,760 in non-cash charitable contributions. They attached Form 8283, the correct form for reporting non-cash donations of $500 or more. So far, so good.

But the form was basically empty. The Besaws left out the donation dates, the fair market values of the donated property, their cost basis in that property, and the method they used to arrive at the deductible amount.

“Really, all of the important information,” Wells notes.

The IRS examined the return in 2022 and requested proof for those charitable contributions. In response, the Besaws submitted what Wells calls a “reconstructed record,” essentially taking what was on their incomplete Form 8283 and using it to piece together documentation of their contributions.

The IRS said that wasn’t good enough. They denied the deduction and sent a notice of deficiency. The case wound up in Tax Court.

Contemporaneous Is The Magic Word

The fatal flaw in the Besaw case comes down to one word that appears throughout tax law: contemporaneous.

“The word contemporaneous comes up in other places in tax law as well,” Wells explains. “If you drive to meet a client or meet a vendor, you’re supposed to keep a contemporaneous written mileage log. That means you’re supposed to keep that throughout the year. You’re not supposed to look back at the prior year and try to reconstruct that from memory.”

The same principle applies to charitable contribution records. But Section 170 gives a specific definition. Documentation must be received by the earlier of the date you file your return or the due date (including extensions).

The Besaws created their records in 2022, long after filing their 2019 return and while the IRS was already examining it. That timing made all the difference.

What makes this case really striking is that nobody disputed that the donation actually happened. “At no point did the IRS or the Tax Court claim the donation may never have happened,” Wells emphasizes. “Everyone agreed that the donation happened. The issue was whether it was properly documented.”

This flows from a principle Wells returns to often. “Deductions are a matter of legislative grace.” That phrase appears throughout Tax Court decisions. It means the deduction doesn’t come free. You can’t just say you made a contribution and expect the benefit. The law sets rules for how taxpayers claim and prove deductions. Fail to meet those requirements, and the deduction disappears, even if the donation was real.

The Four Levels of Documentation Requirements

Understanding what documentation you need depends on how much you’re donating. The rules get stricter as the amounts go up.

Level 1: Non-Cash Contributions Under $250

For donations under $250, Treasury Regulation 1.170A-13(b)(1) requires a receipt showing:

The name of the charity
A description of the property
The date and location of the contribution

This is where those blank receipts from donation drop-offs become a problem. “A lot of times those slips of paper wind up in our client portal without much more than whatever is preprinted on them by the organization, which is usually just the name of the organization and its location,” Wells observes. “There’s no other information there.”

The receipt doesn’t need to include a value—that’s the taxpayer’s job. But it must describe what the taxpayer gave.

Level 2: Non-Cash Contributions Over $250

Cross the $250 threshold, and you need a contemporaneous written acknowledgment from the organization. This must include:

A description of the property
A statement of whether any goods or services were provided in exchange, and a value or good-faith estimate of those goods or services

“This is actually where the taxpayer failed in this Tax Court case,” Wells points out, “because the charity receipts contained no descriptions of the donated items.”

Remember, the acknowledgment must be received by the earlier of the filing date or the due date, including extensions. Miss that window, and you can’t fix it later.

Level 3: Total Non-Cash Contributions Over $500

When total non-cash contributions exceed $500, you must file Form 8283. Treasury Regulation 1.170A-13(b)(3) says you need to report:

The date you acquired the property
How you acquired it (i.e., purchase, gift, or inheritance)
Your cost or basis in the property
The fair market value at the time of donation
The method used to determine the fair market value

“The taxpayer in this Tax Court case left all these blank,” Wells notes. “And that was problematic for him.”

Level 4: Single Items or Groups Over $5,000

When any single item or group of similar items exceeds $5,000, IRC Section 170(f)(11)(C) requires a qualified appraisal. The taxpayer, the charity, and the appraiser all must sign Section B of Form 8283.

Wells has seen how this plays out. “I’ve had situations where taxpayers wanted to claim a deduction in excess of $5,000, and once we explain the appraisal requirement, either they didn’t want to go through with the appraisal, or they adjusted their valuation of that contribution to an amount below $5,000.”

What You Need vs. What You File

The charity doesn’t provide valuations on receipts. “It’s up to the taxpayer to report and to calculate a fair market value of those contributed items,” Wells explains. “It’s not up to the organization to put that together.”

But descriptions must be detailed enough to identify the items and estimate value. You can’t write “trunk full of stuff.” But you don’t need to list every single piece of clothing either.

Beyond what gets filed with the return, Treasury Regulation 1.170A-13 requires taxpayers to keep:

A detailed list of donated property
Receipts showing dates, locations, and descriptions
Fair market value worksheets showing how they calculated values
Any appraisals, if required

This is what the IRS requested in 2022, and what the Besaws couldn’t produce in its original form. Form 8283 is only part of the package.

Dealing with Those Blank Goodwill Receipts

“When you see those blank Goodwill receipts pop up in your client portal, how will you address those?” Wells asks. It’s a question every practitioner faces each tax season.

When receipts say something like “household goods, used clothing $1,000,” is that enough? Based on the Besaw case and the regulations, “Probably not,” Wells says. “We need a little bit more information than that.”

When non-cash charitable contributions appear, Wells recommends asking these questions:

What exactly did you donate? Get actual descriptions, not just “clothing”
When and where did they donate? Dates and locations matter
Is there a receipt or written acknowledgment? If not, do they have their own records?
Does the record describe the property adequately? “Stuff” won’t cut it
Did they receive anything in return? This affects the deductible amount
Do total non-cash contributions exceed $500? This triggers Form 8283
Does any single item exceed $5,000? This may require an appraisal
How did they determine the value? They need an actual method

Getting Real About Fair Market Value

Treasury Regulation 1.170A-1(c)(2) defines fair market value as “the price a willing, knowledgeable buyer would pay a willing, knowledgeable seller under no compulsion.”

For clothing and household goods, this usually means thrift shop value. Wells recommends a practical test. “If you didn’t know anything about this t-shirt other than you saw it hanging on a rack in a thrift shop and you liked it, what price would you reasonably pay for that?”

One common problem is sentimental value. “Just because an item holds some sentimental value for you or your family doesn’t necessarily mean it has a higher fair market value,” Wells cautions. “Sentimental value doesn’t really translate into actual market value.”

There’s also a quality requirement. Under Section 170(f)(16), clothing and household goods must be in “at least good used condition” to qualify. Worn-out or broken items are not deductible at all.

Four Myths That Create Problems

The Besaw case debunks several common assumptions:

Myth 1: A signed receipt is enough

In reality, the receipt must describe the property and include other details.

Myth 2: You can fix missing details later

This killed the Besaws’ deduction. Documentation must be contemporaneous.

Myth 3: Fair market value is optional for small donations

Form 8283 requires fair market value for every non-cash donation over $500.

Myth 4: If the donation happened, the IRS should allow it

The Besaw case proves otherwise. Both sides agreed that the donation occurred. But the Tax Court still disallowed the deduction.

The Bottom Line

The Besaw case demonstrates that, in tax law, documentation beats facts. A legitimate charitable donation means nothing without proper contemporaneous records.

Tax practitioners must remember:

Contemporaneous means by the filing date or due date (including extensions)
Different amounts trigger different requirements
Form 8283 isn’t the whole story. Taxpayers must keep detailed records
Those blank Goodwill receipts are audit risks waiting to happen

“This Tax Court case illustrates that substantiation is everything,” Wells concludes. “It really is in a lot of areas of tax law, and especially here in terms of charitable contributions.”

The charitable deduction can be powerful, but it comes with serious technical requirements. Listen to the full episode and make sure your clients understand these rules before they drop off that next load at Goodwill, and definitely before they try to claim the deduction.

Which Employee Benefits Survived Recent Tax Legislation and Which Disappeared Forever?

Earmark Team · February 5, 2026 ·

Picture an HVAC technician standing in a Florida hardware store, personal credit card in hand, about to purchase a part needed to complete an air conditioning repair. It’s a routine moment that plays out thousands of times daily across the country: an employee spending personal funds on a legitimate business expense. But what happens next determines whether that simple transaction remains a straightforward reimbursement or transforms into unexpected taxable income.

This scenario is part of the final installment of the Tax in Action podcast’s three-part series on fringe benefits. In this episode, host Jeremy Wells, EA, CPA, completes his comprehensive discussion of IRC Section 132 benefits by looking at the remaining four fringe benefit categories and tackling the often-misunderstood topic of accountable plans.

The timing couldn’t be better. The Tax Cuts and Jobs Act of 2017 initially suspended many traditional benefits through 2025. Now, the One Big Beautiful Bill Act has made those restrictions permanent. And ir’s crucial for tax practitioners to understand these changes.

The Legislative Wrecking Ball: What’s Gone and What Remains

Before advising clients on fringe benefits, practitioners need a clear picture of what recent legislation has taken off the table permanently.

No Qualified Transportation Benefits Deductions for Employers

The qualified transportation fringe once covered four benefit categories:

Transportation in a commuter highway vehicle
Transit passes
Qualified parking
Qualified bicycle commuting reimbursement

For employers in major cities, these benefits were a meaningful way to help employees manage commuting costs.

That’s all changed now.

The Tax Cuts and Jobs Act disallowed the employer deduction for these benefits from 2018 through 2025, with one narrow exception: employers could still deduct transportation costs provided to ensure employee safety. As Jeremy explains, this means “vehicles that need additional security, such as bulletproof glass or a driver, a chauffeur that is trained in defensive driving techniques”—not typical small business scenarios.

The One Big Beautiful Bill Act made this disallowance permanent under IRC Section 274(a)(4).

But there’s a crucial nuance: the employee exclusion still exists for most of these benefits. Employees can still receive transit passes or qualified parking tax-free, within the limits in Treasury Regulation Section 1.132-9. The employer just can’t deduct the cost anymore. This creates an awkward situation where “there’s really not a strong incentive for the business to provide that fringe benefit,” Jeremy notes.

Bicycle commuting reimbursement fared worse. The Tax Cuts and Jobs Act eliminated both the employer deduction and the employee exclusion entirely. “Beginning with tax year 2018, the qualified bicycle commuting reimbursement is no longer a thing,” Jeremy confirms.

Moving Expense Reimbursements Apply Only to Military and Intelligence

Under IRC Section 217, employers used to be able to exclude from employee income the reimbursement of moving household goods and travel expenses between residences (including lodging but not meals). It was a practical benefit for companies relocating talent.

The Tax Cuts and Jobs Act suspended the exclusion and the individual’s ability to deduct moving expenses. The One Big Beautiful Bill Act made that suspension permanent, with two specific exceptions.

Members of the U.S. Armed Forces on active duty who move pursuant to a military order still qualify. Also, the One Big Beautiful Bill Act added employees or new appointees of the intelligence community, as defined in Section 3 of the National Security Act of 1947.

For everyone else, this is a benefit “we just really won’t see that much anymore,” Jeremy says.

What Benefits Survived?

Not all benefits fell victim to legislative changes. Two Section 132 benefits emerged unscathed.

Qualified Retirement Planning Services (Section 132(m)) allows employers maintaining qualified employer plans to provide tax-free retirement planning advice to employees and their spouses. Jeremy describes this as situations where “you might meet with a financial advisor” when becoming eligible for employer-sponsored retirement plans.

The benefit requires nondiscrimination. Highly compensated employees can participate only if services are available “on substantially the same terms to each member of the group of employees.”

Qualified Military Base Realignment and Closure Fringe (Section 132(n)) compensates military personnel and certain federal civilian employees for housing value declines caused by base closures. Jeremy explains how military bases drive local economies, and when they close, “selling a house could be pretty difficult.”

The Defense Department’s Homeowners Assistance Program provides three payment scenarios:

Private sale: difference between 95% of prior fair market value and actual selling price
Government acquisition: greater of 90% of prior value or mortgage payoff
Foreclosure: payment directly to lienholder

The program is run by the U.S. Army Corps of Engineers and is currently limited to wounded, injured, or ill soldiers and their surviving spouses.

Achievement Awards and the Gym Membership Myth

Beyond Section 132, two benefit categories generate frequent questions (and misconceptions).

Specific Rules for Achievement Awards

Employee achievement awards survived legislative changes intact. Employers can provide tax-free awards for length of service and safety achievements, but the rules are rigid.

Safety achievement awards cannot go to “a manager, administrator, clerical employee, or other professional employee.” Jeremy clarifies the recipient must be “someone that is actually in a line of work within that company where safety could be an issue.” For example, awards can go to workers on factory floors or construction sites, but not office workers.

No more than 10% of eligible employees can receive safety awards annually.

Length of service awards require at least five years of employment. Jeremy notes these are “usually ten, 15, 20 years” in practice.

For both categories, the awards must meet the following requirements:

It must be tangible personal property (such as the “stereotypical gold wristwatch”)
It cannot be cash, cash equivalents, vacations, meals, lodging, event tickets, or securities
The award must involve a “meaningful presentation,” such as a sort of ceremony or all-hands meeting
The award cannot create conditions suggesting disguised compensation

There are also dollar limits to keep in mind. The award value is limited to $1,600 per employee per year for qualified plan awards, and $400 for non-qualified awards. A qualified plan must be written and not discriminate toward highly compensated employees.

Athletic Facilities: The Question That Won’t Die

Jeremy addresses a common question from self-employed clients: “How do I let my business write off my gym membership?”

But gym memberships are inherently personal expenses, and therefore not deductible.

The athletic facilities benefit under IRC Section 132(j-4) requires the facility be “owned or leased and operated by the employer” for the “substantially exclusive use” of employees, spouses, and dependent children.

The following absolutely do not qualify:

Gym memberships
Country club memberships
Personal trainers
Any fitness program open to the public

Jeremy sympathizes with self-employed clients who want to look good for their clientele, but wanting doesn’t make it deductible. The only path requires the business to literally own or operate the gym itself.

The Three-Requirement Test for Accountable Plans

When employees spend their own money on business expenses, accountable plans determine whether reimbursements are tax-free or taxable wages.

The Employee’s Dilemma

IRC Section 62(a)(1) creates a problem. Employees cannot deduct business expenses from their gross income. The Tax Cuts and Jobs Act suspended the old miscellaneous itemized deduction (subject to 2% of AGI), and the One Big Beautiful Bill Act made the exclusions permanent.

Returning to Jeremy’s HVAC technician example, “They get to a site, they are ready to make the repair, but they’re missing a part.” The technician buys it with personal funds. Without proper reimbursement, “this was not a personal expense. This was a business expense. The employee should expect to be reimbursed.”

Three Requirements, Zero Flexibility

Treasury Regulation 1.62-2 establishes three criteria for accountable plans. Miss any one, and “allowances, advancements and reimbursements paid under a non-accountable plan have to be included in the employee’s gross income.”

Requirement 1: Business Connection

The expense must be “ordinary and necessary for the employer” and incurred “in connection with the performance of services as an employee.”

Jeremy warns against payments made “regardless of whether the employee actually incurs or is reasonably expected to incur bona fide employee business expenses.” Those payments automatically fail the test.

Requirement 2: Substantiation

For general expenses, employees must provide documentation “sufficient to enable the payer to identify the specific nature of each expense.” Vague terms like “miscellaneous business expenses” don’t qualify.

For Section 274(d) expenses (travel, meals, vehicle use), strict rules require:

Dates and durations
Locations and distances
Business purpose
Identity of individuals involved

Jeremy emphasizes “receipts or contemporaneous logbooks” as the standard.

Requirement 3: Return of Excess

When providing advances, employers must get back any unsubstantiated amounts. Jeremy gives a simple example: “You give an employee $100 to drive across the county” but receipts total $40. “The employee needs to return the additional $60.”

A safe harbor exists if the company provides quarterly statements showing advances versus substantiated amounts and gives employees 120 days to substantiate or return the excess.

The Cascade Effect of Failure

Revenue Ruling 2006-56 contains a harsh rule. If an arrangement “routinely pays allowances in excess of the amount substantiated without requiring actual substantiation” or repayment, “all the payments, not just the excess, but all payments” become taxable wages.

The Recharacterization Trap

“An arrangement that characterizes taxable wages as nontaxable reimbursements or allowances doesn’t satisfy the business connection requirement,” Jeremy points out, emphasizing a critical limitation.

This comes up frequently with S-corporation shareholder-employees who engage advisors mid-year. “We can’t go back in the past and look at that and try to recharacterize some of those wages. That is not allowed,” Jeremy explains.

Who’s Excluded

Independent contractors fall outside accountable plan rules entirely. Jeremy clarifies that reimbursements “need to be included in the gross income that’s reported as payments to that independent contractor” on Form 1099-NEC. The contractor then deducts the expense themselves.

Partners in partnerships create a gray area. “I don’t really see a case for using accountable plans for partners in partnerships,” Jeremy says. Instead, handle reimbursements through the partnership agreement, with unreimbursed expenses deducted on page two of Schedule E.

Protecting Clients from Costly Mistakes

The fringe benefit rules have permanently changed, and the remaining benefits require careful implementation. As Jeremy concludes, employers must understand the rules “whenever they provide any sort of benefit or compensation to employees that they want to be deductible and/or excludable.”

Accountable plans are a critical mechanism for separating tax-free reimbursements from unexpected wage income, but the three requirements don’t allow for partial compliance.

Practitioners must know what’s permitted and work to correct persistent misconceptions. Gym memberships don’t become deductible because clients want them to be, and companies can retroactively reclassify wages.

The stakes justify the diligence. Every employer who mishandles these benefits creates lost deductions for the business and unexpected taxable income for employees. And nobody wants that.

This concludes Jeremy’ three-part series on fringe benefits and accountable plans. Listen to the full episode for complete details, and check out part one and part two covering qualified employee discounts, no-additional-cost services, working condition fringes, and de minimis benefits.

Company Vehicles, Cell Phones, and Office Snacks: What’s Actually Tax-Free for Employees

Earmark Team · February 2, 2026 ·

Have you ever had to explain to a client that the $35 gift card they gave each employee for the holidays must be reported as taxable compensation, but the $35 holiday ham they gave last year was completely tax-free? Welcome to the world of fringe benefit taxation, where seemingly identical gestures of employee appreciation can produce dramatically different tax consequences.

This counterintuitive example comes from Episode 18 of the Tax in Action podcast, where host Jeremy Wells, EA, CPA, continues his deep dive into IRC Section 132’s fringe benefit provisions. Building on a previous episode discussing no-additional-cost services and qualified employee discounts, this episode covers two benefit categories that touch nearly every business with employees: working condition fringes and de minimis fringe benefits.

Many employers want to provide benefits to their workforce, but the line between tax-free perks and reportable compensation often comes down to surprisingly specific details. Understanding these distinctions helps tax professionals guide clients toward meaningful benefits without triggering unexpected tax consequences.

When structured correctly, these benefits are deductible for the employer and excludable from the employee’s taxable compensation. Get the details wrong, and what was intended as a thoughtful perk becomes reportable wages subject to income, employment, and state taxes.

Working Condition Fringes Help Employees Do Their Jobs Better

The concept behind working condition fringes is straightforward. If an expense would be deductible under IRC Section 162 (ordinary business expenses) or Section 167 (depreciation) had the employee paid for it personally, the employer can provide that benefit tax-free. Some common examples include company vehicles for service technicians, professional development courses, business travel, and other things employees genuinely need to perform their jobs effectively.

But practitioners need to pay close attention to ensure the benefit relates specifically to that employee’s role with that employer. As Wells explains, if the expense instead supports outside professional activities, such as consulting privately, serving on an external board, or running a separate venture, the employer’s payment doesn’t qualify as an excludable working condition fringe. The employer would essentially be subsidizing something that benefits the employee’s outside activities rather than their own business operations.

Who Counts as an “Employee” (And Who Doesn’t)

The definition of “employee” for working condition fringes is broader and narrower than you might expect. It includes current employees, partners performing services for a partnership, directors of the employer, and even independent contractors performing services for the employer. This expanded definition allows businesses to provide qualifying benefits across different working relationships without triggering taxable compensation.

However, the definition is more restrictive than what applies to other fringe benefit categories. Former employees, spouses, and dependents can qualify for no-additional-cost services and qualified employee discounts discussed in Episode 17, but don’t make the cut for working condition fringes.

One additional group does qualify: bona fide volunteers at nonprofit organizations can receive working condition fringes without it being treated as compensation. This provides helpful flexibility for tax-exempt entities, though Wells emphasizes that understanding what organizations can provide to volunteers without converting them to compensated workers requires careful attention to the rules.

No Discrimination Rules Apply

Unlike many benefit programs, working condition fringes come with no nondiscrimination requirements. An employer can provide a company vehicle to one employee while not offering similar benefits to others. Highly compensated employees can receive working condition fringes that aren’t available to rank-and-file workers. This flexibility allows businesses to target these benefits where they’re most needed operationally.

Substantiation Requirements Still Matter

The absence of nondiscrimination rules doesn’t mean working condition fringes don’t have documentation requirements. If IRC Section 274 imposes strict substantiation requirements on a particular type of expense, those same requirements apply when the expense is provided as a working condition fringe.

Wells points to club memberships as a prime example. IRC Section 274(a)(3) disallows deductions for membership dues in clubs organized for business, pleasure, recreation, or other social purposes, such as country clubs, chambers of commerce, civic organizations, and similar groups. When clients argue these memberships generate business connections, Wells notes “just because something seems like it should be deductible, or it seems unfair that it’s not deductible, that’s just simply what the law says.”

An employer can still pay for such memberships, but they must include the value in the employee’s compensation and deduct it or exclude it from compensation and forgo the deduction entirely.

When providing cash advances for working condition fringes, employers must require employees to use the cash for specific deductible activities, verify correct use with receipts, and return any unspent cash. This differs significantly from de minimis fringes.

Getting the Details Right with Company Vehicles

Employer-provided vehicles are a common working condition fringe benefit. We’re not talking about business owners using vehicles for personal transportation, but true company vehicles like the trucks driven by HVAC technicians, the vans operated by plumbers, and vehicles used by pest control professionals.

The excludable portion is the total annual value of the vehicle multiplied by the percentage of business-use miles. “Even though it’s company owned, there still needs to be a written, contemporaneous mileage log,” Wells says, emphasizing a critical point. Digital tracking counts, but the documentation must exist.

When an employee keeps the vehicle overnight to make an early morning service call, that commute home and back to work counts as personal use. The substantiation requirements don’t relax simply because the employer holds the title.

If multiple employees share vehicles throughout the year, their combined legitimate business mileage counts in both the numerator and denominator of the business-use calculation. But if specific employees use designated vehicles during identifiable periods, the organization must maintain records separately.

Other Working Condition Fringes

Product testing is another excludable category with specific requirements. Employers must limit product availability to the testing period, require return of products afterward, and collect detailed employee reports. Notably, directors and independent contractors don’t qualify for this particular exclusion, so employers must report test products provided to them as compensation.

Job-related education qualifies as a working condition fringe when it meets requirements under IRC Section 127. Wells devoted Episode 7 entirely to deductible education costs, which provides deeper guidance on this topic.

Business travel expenses, including flights on employer-provided aircraft, can be excluded when legitimately deductible. But personal elements, such as tickets for children, personal destinations, or accompanying family members without documented business purpose, are includable in income.

For clients in higher-risk environments, enhanced security for company vehicles can qualify as working condition fringes. The key is documented specificity: general safety concerns don’t suffice. There must be evidence of actual threats, such as death threats, kidnapping risks, or recent violent incidents, and security must be part of a comprehensive 24-hour protection program.

De Minimis Fringe Benefits: When “Too Small to Count” Actually Counts

While working condition fringes help employees perform their jobs, de minimis fringes address the smaller perks that boost morale and show appreciation. The standard seems simple: if a benefit’s value is so small that tracking it would be unreasonable or administratively impracticable, employers can provide it tax-free.

But don’t let “too small to count” suggest this category operates without rules. The de minimis standard contains specific requirements, and one absolute prohibition that catches many employers off guard.

The Individual Employee Test

Frequency matters when determining whether a benefit qualifies as de minimis, and the analysis focuses on each individual employee. “Providing a daily meal to a single employee is not a de minimis fringe benefit with respect to that employee,” Wells explains, “even though if we were just looking at the number of meals provided annually to all employees, it might be a relatively small number.”

The exception comes when tracking individual frequency becomes administratively difficult. Wells offers the copying machine example. If an employer ensures at least 85% of use is for business purposes, any personal use qualifies as de minimis. Nobody expects employers to count every personal page, so these rules eliminate that administrative burden.

The Absolute Cash Equivalent Prohibition

Here’s where many well-intentioned employers stumble: cash and cash equivalents are never excludable as de minimis fringes. No exceptions. The rationale is, it’s never administratively impracticable to account for cash.

This creates counterintuitive outcomes that confuse clients. The holiday ham or turkey is the textbook de minimis fringe, literally cited by Congress when explaining IRC Section 132. But when one employer switched from holiday hams to $35 gift certificates for local grocery stores, the IRS ruled those certificates were cash equivalents and thus no longer excludable.

“Even though in terms of frequency and amount, it might appear de minimis, I can specifically and administratively identify how much was spent so that is never going to be excludable,” Wells emphasizes.

Office Snacks and the TCJA Changes

Coffee, donuts, and soft drinks in the office are another classic de minimis fringe benefit. So are occasional meals or meal money provided specifically for employees working overtime, with emphasis on “occasional” and the overtime connection. Company parties, picnics, and group meals (including guests) also qualify.

These categories generated confusion following the 2017 Tax Cuts and Jobs Act. “I saw a lot of social media posts claiming the legislation made office snacks, donuts, and soft drinks nondeductible and includable. Neither one of those is true,” Wells says, clarifying an important misconception.

What actually changed is pre-TCJA, these items were 100% deductible. Post-TCJA, office snacks and occasional meals became 50% deductible. They’re still deductible, just at half the rate. They remain fully excludable from employee compensation.

What did become nondeductible after 2025 are expenses for employer-operated eating facilities—essentially cafeterias that charge employees for food. But basic office snacks are 50% deductible for employers and still tax-free for employees.

Employer-Provided Cell Phones

Cell phones occupy an interesting position, potentially qualifying under both working condition and de minimis rules. The key is why the employer provides the phone.

If they provide it so the employee can be on-call outside normal hours, then the business use qualifies as a working condition fringe and personal use as de minimis. As a result, the entire value is excludable for the employee and deductible for the employer.

However, phones provided to boost morale or included in employment contracts as compensation don’t qualify. The phone must serve the employer’s operational need for employee availability.

Holiday and Special Occasion Gifts

Employers can provide occasional, non-extravagant gifts for holidays, birthdays, achievements, illnesses, or family crises as excludable de minimis fringes. Wells notes these should be “one off or occasional, maybe annual. Probably not more often than that.”

But the cash equivalent prohibition applies fully here. A $35 gift basket is excludable. A $35 gift card to the employee’s favorite restaurant must be included in compensation. Same dollar amount, same thoughtful intent, completely different tax treatment.

Common Pitfalls and Non-Excludable Benefits

Wells identifies several benefits that commonly trip up employers who assume they’re tax-free:

Season tickets to sporting or theatrical events cross the line into reportable compensation, though a single occasional ticket might qualify as de minimis.
Commuting use of employer-provided vehicles remains personal use that must be tracked and potentially reported, even for company-owned vehicles used primarily for business.
Private country club or athletic facility memberships don’t qualify as excludable fringes, despite potential business networking value.
Group term life insurance on a spouse or child creates taxable compensation, as only coverage on the actual employee qualifies for favorable treatment.
Personal use of employer facilities like a beach condo or hunting lodge generates reportable income. Wells notes clients often want to rent cabins for “strategic planning” retreats, but “it would be a stretch to say that was an actual business expense.”

The Documentation Imperative

Throughout the episode, Wells emphasizes that “documentation is key.” Even without nondiscrimination requirements, written policies and records protect both employers and employees.

Best practices include:

Maintaining detailed records of what benefits were provided, when, and to whom
Tracking benefit values even for seemingly trivial items
Ensuring you’ve satisfied substantiation requirements under IRC Section 274
Documenting eligibility criteria in writing

“It’s always best practice to clearly document in writing who earns what kinds of benefits,” Wells advises, “even if there are no nondiscrimination rules for the particular kind of benefit.”

Turning Fringe Benefit Rules Into Client Value

Working condition fringes and de minimis benefits offer employers meaningful ways to support their workforce beyond traditional compensation. Company vehicles enable service technicians. Cell phones keep employees connected. Office coffee makes the workplace pleasant. Holiday gifts acknowledge contributions. When structured correctly, these benefits are deductible for employers and invisible on employee W-2s.

For tax professionals, mastering these distinctions creates immediate value for business clients. Every employer wants to provide meaningful benefits. Guiding them toward tax-efficient structures while avoiding pitfalls demonstrates expertise that justifies advisory relationships.

Listen to the full Tax in Action episode for Jeremy Wells’ complete analysis, including additional examples and nuances not covered here.

The Nine Factors That Determine Whether a Business Is Real or Just a Hobby

Earmark Team · January 28, 2026 ·

Susan Crile spent 25 years as a professional artist. In all but two of those years, she reported losses on her tax returns. When the IRS came knocking with a deficiency notice that could cost her tens of thousands of dollars, they claimed her art wasn’t a real business—just an expensive hobby.

What happened next became one of the most instructive Tax Court cases for understanding how to defend business deductions against IRS challenges.

In episode 16 of Tax in Action, host Jeremy Wells, EA, CPA, breaks down Susan Crile v. Commissioner (Tax Court Memorandum 2014-202)—a case he considers essential reading for anyone working with self-employed clients. As Jeremy explains, “If you work with small business owners, I strongly recommend reading through this opinion.”

When Your Business Becomes the IRS’s Target

The hobby loss rule creates what Jeremy calls a “heads I win, tails you lose” situation for the IRS. Here’s why it’s so devastating for small business owners.

When the IRS decides your activity is a hobby rather than a business, the tax consequences are brutal. “The income from these kinds of hobby, sport or recreational activities is still included in taxable income,” Jeremy explains. “But the reverse is not true. Those losses are not deductible.”

Think about what this means. If you’re an artist who sells $10,000 worth of paintings but spends $25,000 on studio rent, supplies, and marketing, the IRS still taxes that $10,000 as income. But if they say you’re pursuing a hobby, you can’t deduct any of that $25,000 in expenses.

Since 2018, when the Tax Cuts and Jobs Act eliminated miscellaneous itemized deductions (made permanent by later legislation), hobby expenses have been completely nondeductible. You pay tax on every dollar coming in, but can’t offset any dollars going out. The only exception is cost of goods sold (COGS), as the cost of raw materials can still reduce gross income.

The burden of proving your activity is a legitimate business falls entirely on you. Courts won’t just take your word for it. As Jeremy notes, “I can say I’m hoping to make a profit someday, but the courts look at all of the objective factors that go into how I’m operating that activity.”

Who’s at Risk (And Who’s Not)

The hobby loss rule applies to nearly every small business structure: individuals filing Schedule C, partnerships, S corporations, estates, and trusts. But C corporations are completely exempt.

Jeremy points to Amazon as a perfect example. “Amazon was a C corporation pretty much from the start,” he explains. The company famously took seven to eight years before turning a profit. “There was a long time there where investors were nervous that Amazon was never going to be profitable.” Yet Amazon never faced hobby loss scrutiny because C corporations don’t have to worry about this rule.

Simply forming an LLC or electing S corporation status won’t protect you. “Just registering an entity such as an LLC or just making a tax election, such as electing to be an S corporation, doesn’t necessarily guarantee that that taxpayer is not going to have to worry about the hobby loss rule,” Jeremy emphasizes.

For partnerships and S corporations, the determination happens at the entity level, not the individual partner or shareholder level. That affects how losses flow through to individual tax returns.

Susan Crile’s David vs. Goliath Battle

Susan Crile was a tenured art professor at a university when she received IRS deficiency notices in 2010. The IRS was challenging tax years 2004, 2005, and 2007 through 2009—five years where her losses ranged from about $37,000 to $63,000 annually.

The IRS made two arguments. First, they claimed her art activity wasn’t engaged in for profit. Second, they argued that even if it was a business, it should be considered part of her work as an art professor, making the expenses unreimbursed employee expenses rather than business deductions.

Crile believed this was a test case. In an interview after the decision, she said she felt the IRS was exploring “the art industry as a whole to see how far it could go in terms of auditing artists.” Whether that’s true or not, her case established important precedents for creative professionals everywhere.

The Nine Factors That Saved Her Business

The Tax Court uses a nine-factor test from Treasury Regulation 1.183-2(b) to determine whether an activity has a profit motive. Jeremy notes that this framework actually came from earlier court cases. The courts created the test, and the Treasury later adopted it into regulations.

Here’s how each factor played out in Crile’s case:

1. The manner in which she carried on the activity

The court found Crile kept “relatively good records” of sales, galleries, and exhibitions. She worked with a bookkeeper for most years in question. But what really impressed the judge were her business decisions, like switching galleries when she realized her current venue no longer attracted buyers interested in her type of art. The judge concluded, “Petitioner’s marketing efforts demonstrate a profit objective.”

2. Her expertise and that of her advisors

The IRS tried arguing that while Crile could create art, she didn’t understand the business of selling it. The court thoroughly rejected this. The judge found she “understood the general factors that affect the pricing of art: a history of sales, gallery representation, solo exhibits, critical reviews, prestigious public accolades, and she worked diligently to achieve these credentials.” The court’s verdict? “She is, without doubt, an expert artist who understands the economics of her business.”

3. Time and effort expended

Crile spent about 30 hours per week on art during teaching periods and worked full-time creating art the rest of the year. But the court looked deeper, distinguishing between tasks necessary for any activity versus those “essential only because she was conducting a business.” Mundane business tasks like marketing, networking with collectors, and arranging shows would be unnecessary for a hobbyist.

4. Expectation that assets may appreciate

The court recognized that art is “a speculative venture where a single event, a solo show, a rave review or a museum acquisition can lead fairly suddenly to an exponential increase in the prices paid for an artist’s work.” Artists create inventory that might sit at low values for years before that breakthrough moment arrives.

5. Success in other activities

Crile had been an artist for over a decade before becoming a professor. Her academic success actually enhanced her standing with art professionals and expanded her clientele. This factor was relatively neutral in the case.

6. History of income or losses

This was Crile’s weakest point: she had only two profitable years in 25. Jeremy acknowledges “the IRS won this point.” However, the court noted that some losses might have resulted from improperly claiming personal expenses as business expenses. The 2008 financial crisis had also devastated the New York art market during several years under review. Most importantly, the court stated that “losses do not negate the petitioner’s actual and honest intent to profit from the sale of her art.”

7. Amount of occasional profits

With just two years of reported profits, this factor “weighed slightly in favor of the IRS.” But the court remained sympathetic, understanding that in the art world, one breakthrough can change everything.

8. Financial status

Crile had a salary from teaching, but she’d been an artist for over a decade before getting that job. She didn’t become an artist to shield other income from taxes. This factor was neutral.

9. Elements of personal pleasure

The court offered this memorable insight: “A level of suffering has never been made a prerequisite to deductibility.” Yes, Crile probably enjoyed creating art. But her extensive research, marketing efforts, and business operations took her activity “well beyond the realm of recreation.”

The Verdict That Protected Creative Professionals

When the court weighed all factors together, “both qualitatively and quantitatively,” the balance tipped in Crile’s favor. She had proven “an actual and honest objective of making a profit.”

The court found that her activity was indeed a business, allowing her to deduct ordinary and necessary business expenses, and any losses were deductible. As Jeremy summarizes, “Her professional conduct, demonstrated expertise, significant time commitment, and reasonable expectation of appreciation outweighed even decades of losses.”

Clearing Up the “Three-of-Five Year” Confusion

Many tax professionals misunderstand the three-of-five year rule. “I hear this misstated a lot as an activity can’t lose money for three or more years before it’s not deductible,” Jeremy says.

However, that’s not what the rule says. If an activity shows profit in any three of five consecutive years (or two of seven for horse-related activities), it creates a presumption of profit motive. This shifts the burden of proof from the taxpayer to the IRS, but it doesn’t guarantee anything.

“Even if the activity does meet that safe harbor presumption, the IRS can still determine that that activity is not engaged in for profit,” Jeremy warns. Conversely, “an activity can not have profits for more than three years and still be an activity engaged in for profit.”

Practical Lessons for Tax Professionals

Jeremy transforms Crile’s victory into actionable strategies for protecting clients:

Document everything. “Documentation and record keeping is key,” Jeremy emphasizes. “Part of the reason Crile was successful is because she had a really good documentation system of her income, expenses, and all the work she produced and her efforts to market that work.”
Understand your client’s industry. Jeremy notes how “understanding how the art industry works was key to this case.” Crile brought in expert witnesses to educate the court about art market dynamics. When you can explain why a business operates the way it does within its specific market context, losses become understandable business challenges rather than red flags.
Focus on profit motive, not profit. “Having a profit motive isn’t the same as regularly making a profit,” Jeremy clarifies. Don’t scramble to show profitability. Focus documentation efforts on proving business intent.
Get to know your clients. Jeremy urges practitioners to understand their clients’ business vision, market strategy, and operational challenges. This ensures “when they go through those periods of losses, you’ve got the ability to make a solid case for them that that activity is, in fact, still engaged in for profit.”

The Human Side of Tax Law

Jeremy finds Crile’s case particularly valuable because it shows “how technical rules and factors at play actually work out in a real life scenario.” Reading the court opinion alongside Crile’s post-case interview reveals “the human side of the story.”

The case made national headlines, with coverage suggesting it protected artists’ livelihoods by confirming their work could be businesslike. But as Jeremy notes, each case is different. “It’s entirely up to the taxpayer to conduct an activity in a professional and business-like manner to avoid the hobby loss rule.”

For tax professionals working with struggling entrepreneurs, such as artists, gig workers, or innovative startups, Crile’s case provides a masterclass in building defensible positions. The tax code, despite its complexity, can accommodate the messy reality of business development when practitioners know how to document and present their clients’ genuine business efforts.

Listen to Jeremy’s complete analysis of this landmark case in episode 16 of Tax in Action. If you work with small business owners, he strongly recommends reading the full Crile opinion to ensure your clients never face the devastating financial consequences of having their business reclassified as a hobby.