Ever since the 2015 Obergefell v. Hodges case in which the Supreme Court of the United States ruled that the fundamental right to marry is guaranteed to same-sex couples by both the Due Process Clause and the Equal Protection Clause of the Fourteenth Amendment to the United States Constitution, it has been shown that the number of employers offering domestic partner benefits has significantly decreased. A year before the ruling (2014), a survey reflected that 59% provided benefits to same-sex domestic partners and just one year later (2016), 48% are providing benefits with that number decreasing each year. The reason for the latter is that domestic partner benefits can be complex for an employer to manage. During that same period, between 2014 and 2016, there was a 7% increase in the offering of benefits to same-sex spouses. Tax treatment of benefits applies equally to legally married same-sex as it does for opposite-sex couples, however if you are going to offer benefits to domestic partners, then here is what to look out for:
The term domestic partner is in reference to any unmarried couple, aside from their sexual orientation. It is more of a relationship test that determines if a couple can be referred to as partners. The partner typically needs to be a certain minimum age (ex: 18 or older), unmarried, not related by blood to employee, in a relationship for a certain duration (ex: one year) with the employee, cohabiting with employee, and financially interdependent.
If the employer pays for a benefit that covers a partner, or the partners child, then the fair market value (FMV) of the benefit becomes imputed income and taxable to the employee. How does one calculate FMV? Well, the IRS does not provide any guidance, but there are a few used methods.
- Determine the value based on the incremental cost of adding coverage for the individual. For example, if the monthly plan cost for single coverage is $300 and the cost for employee+1 is $550, the FMV of the domestic partner’s coverage would be $250 ($550 − $300).
- Use the plan’s COBRA-applicable premium for individual coverage.
- If the employee already carries family coverage, the cost of adding coverage for the partner may theoretically be $0.00. The IRS has made it clear that the coverage still has value and that an appropriate FMV must be calculated, even if there is actually no additional premium due. Using method 1 or 2 would be suitable.
The amount that the employee pays on an after-tax basis would be subtracted from the FMV to determine the amount to include in the employee’s taxable income.
Most companies that offer insurance benefits take advantage of a cafeteria or premium-only-plan (Section 125) for any amount deducted from the employee. This is a substantial tax savings, one not to be missed. If you are one of the few that don’t participate, check out https://paymaster.com/p/services/insurance/premium-only-plan/. Since the IRS does not recognize the domestic partnership relationship, any amount the employee pays for the partner, or partner’s child(ren), benefit cannot be on a pre-tax basis. Similar to determining the FMV from above, you will need to determine how much the cost is for the partner and partner’s child(ren), and that amount will need to now be deducted on an after-tax basis. This could get interesting if both the employee and the partner have their own children, and since the IRS does not provide any guidance, simply use a method that makes sense.
Lastly, there are some states that recognize the Domestic Partnership relationship. This means that the taxation between the federal and state will differ. For example, if the employer pays for the partner’s health insurance benefit, it would be imputed income for only federal, and not state.
As you can see, with these tax considerations and the lack of a clear definition from the IRS, it could be a messy situation. Not to mention, while my article is meant to cover the payroll taxes involved, there is also an impact on other HR matters, such as FMLA. Be sure to consult with your HR professional to discuss these matters for consideration. Be consistent in your process and document your work.
While I make every attempt to ensure the accuracy and reliability of the information provided in this article, the information is provided “as-is” without warranty of any kind. PayMaster, Inc or Romeo Chicco does not accept any responsibility or liability for the accuracy, content, completeness, legality, or reliability of the information contained. Consult with your CPA, Attorney, and/or HR Professional as federal, state, and local laws change frequently.