Assignment of Income Doctrine Constrains Employer Leave-Sharing Programs
Kenneth A. Mason, Wednesday, November 01, 2006 | Filed under: Fringe Benefits
Citing Supreme Court decisions from the first half of the twentieth century, the IRS has developed and applied the “assignment of income” doctrine. Under this doctrine, an employee’s assignment to another person of his or her right to receive compensation does not relieve the employee of tax liability for the assigned income.
In 1990, the IRS announced an exception to this doctrine for “bona fide employer-sponsored leave-sharing arrangements.” More recent IRS pronouncements have made clear that this leave-sharing exception to the assignment of income doctrine is not without limits.
The leave-sharing arrangement considered in Revenue Ruling 90-29 was limited in scope to employees who donated a portion of their paid leave to other employees who were suffering medical emergencies. The IRS ruled that the employees who received the donated leave were taxable on the value of that leave, and that the employees donating the leave were not taxable.
This leave-sharing exception to the assignment of income doctrine was broadened by the IRS in response to Hurricane Katrina. In Notice 2005-68, the IRS announced that employees who surrendered paid leave to their employer – the value of which was then donated by the employer to a charitable organization assisting victims of Hurricane Katrina – would not be taxed on the value of that leave. This exception was specifically limited to donations made prior to January 1, 2007.
With the expiration date of Notice 2005-68 approaching, the IRS has issued yet another notice in this area. Notice 2006-59 broadens and extends the Katrina-related exception to the assignment of income doctrine to apply to any presidentially declared “major disaster.” To qualify under Notice 2006-59, however, the leave must be donated under a “major disaster leave-sharing plan” meeting eight specific requirements. This latest leave-sharing exception to the assignment of income doctrine is not limited to medical emergencies, and it carries no expiration date (although the Notice does require that both the donation and the use of the paid leave be accomplished within a “reasonable” time after the major disaster occurs).
Lest an employer think that the IRS is going “soft” on the assignment of income doctrine, the IRS also issued a private letter ruling earlier this year concluding that the doctrine would apply to a specified leave-sharing program. This program was sponsored by a state government and included something of a twist on the usual formula. Employees were allowed to donate paid leave to the leave bank of any deceased correctional guard or highway patrol officer who died while in service but not in the line of duty. The state then paid this donated leave to the deceased employee’s survivor (presumably, along with any other paid leave remaining in the employee’s leave bank on the date of his or her death).
The IRS ruled that the assignment of income doctrine applied in this context, so that employees donating the paid leave were taxable on the value of that leave. In explaining its rationale, the IRS noted that the donated leave was not limited to medical emergencies and was not designed to aid victims of Hurricane Katrina.
Though this ruling was issued prior to Notice 2006-59, the program it addressed would apparently fail to satisfy at least two of the eight requirements specified in that Notice. This is because (1) it applied even out- side of a “major disaster,” and (2) employees were allowed to designate specific recipients of the donated leave.
So what’s the bottom line on leave-sharing programs? First, the assignment of income doctrine is alive and well – even in the leave-sharing context. Second, an employer-sponsored leave-sharing program that is limited to employees’ medical emergencies should fall safely within the exception to this doctrine announced in Revenue Ruling 90-29. Third, any employer sponsoring – or considering – any broader type of leave-sharing program should limit the scope of that program to the “major disasters” described in Notice 2006-59, by complying with the eight requirements specified in that Notice.