If you’re new to the world of corporate relocation or have become a little rusty, the term “relocation tax gross ups” may be confusing. No worries! You don’t need to be a CPA to understand how relocation taxes work. In the five minutes it takes to read this primer, you can master the basics every HR and recruiting pro should know.
First things first —
Relocation Taxes Have Changed
Until recently, corporate relocation expenses (for employers) and benefits (for employees) were treated differently under IRS tax code. In the good old days, not all relocation benefits were taxable. Certain benefits were excludable or deductible on a relocation that met the IRS 50-mile rule, meaning no taxes were due. But the Tax Cuts and Jobs Act of 2017 changed all that.
Although the new tax law benefited corporations in some ways, relocation program costs weren’t one of them. Effective January 1, 2018, the relocation expense exemptions and deductions —which applied to the transportation and first 30 days of household goods storage as well as final move expenses —were eliminated. Not impacted, however, were properly structured two-sale home sale programs (BVO/GBO).
Overnight, corporate relocations became more expensive hence the renewed importance of relocation tax gross up.
How Relocation Taxes Work
Tax rates depend on a number of factors, including salary, filing status, location (both city and state), and a few others, all of which determine which tax bracket your employee falls into. Relocation tax calculations rarely consider outside income and/or investments. However, before you can understand how to gross up relocation taxes, you need to understand how relocation impacts an employee’s tax situation. Here are two examples:
Example 1: Charlie’s Relocation Reimbursement
Charlie’s salary is $80,000. In an ordinary year, his W-2 would reflect $80,000 in earnings. However, Charlie relocated this year. His employer reimbursed him $2,000 for his U-Haul and $500 for a final move flight.
Therefore, Charlie’s W-2 will reflect $80,000 + $2,000 + $500, for a total of $82,500. Unfortunately, he must pay taxes on the additional $2,500. (Adding insult to injury, Charlie can no longer deduct/exclude that $2,500.)
Example 2: Lucy’s Traditional Relocation Package
Lucy’s employer has a different relocation policy. When Lucy—who also earns $80,000—relocated, her employer gave her a $5,000 relocation signing bonus and also paid a moving company $11,000 directly.
Therefore, Lucy’s W-2 will reflect $80,000 + $5,000 + $11,000, for a total of $96,000 earnings. She must pay taxes on that additional $16,000 in relocation benefits (ouch!). And no, she can’t deduct or exclude any of it.
As you can see, relocating is an additional expense for employees, potentially souring them on the experience and discouraging future relocations. Employers who use relocation benefits as a hiring and staffing tool have a big problem if they don’t step in to help. Enter relocation tax gross ups!
What is a ‘tax gross-up’?
If you’re not a tax expert (let’s be honest, neither are we!), you might ask the question, “what is a tax gross-up?”
The definition of a tax gross up is when an employer increases the gross amount of a payment to take into account the taxes they would have to withhold from the payment.
In order to keep employees happy and relocation programs working, most employers are choosing to “gross up” their relocation benefits to cover the employee’s tax obligation. This way, the employee is essentially kept whole—no additional out-of-pocket expenses—and the relocation experience remains positive.
Think about it this way. When you give a relocating employee any sort of relocation benefit—whether it's in the form of a signing bonus, reimbursement for moving expenses, or even when you book a flight or pay for a service on behalf of your employee—that money and/or those services are considered taxable income.
It’s worth noting: even if you don’t give your employees cash, and pay for a service directly (think: moving company, a hotel stay, or a flight to the final destination) this is still considered taxable income to the employee. (US tax law still preserves the tax status of “properly structured” corporate home sale programs, also known as BVO or GBO).
That means all relocation benefits, with the exception of corporate home sale programs, are subject to federal, state, and in some cases, local income taxes. With that said, grossing up relocation benefits is the best way to ensure you provide your employees with a great moving experience.
Let’s break this down again. Here’s how things would look for Lucy with and without a tax gross up:
Example 1: No Tax Gross Up for Lucy
Although Lucy received a $5,000 relocation bonus, $2,000 in income taxes are taken out before she gets the cash. In addition, based on the $11,000 moving costs her employer paid directly, she owes an extra $3,500 in income tax. Her W-2 will reflect $96,000 in earnings—and her relocation will cost her an extra $5,500 in income taxes.
Example 2: Lucy Gets a Tax Gross Up
In order to cover the taxes for Lucy’s $5,000 relocation bonus and $11,000 professional moving company, Lucy’s employer pays Lucy an additional $7,000 in earnings, paid directly to the IRS on Lucy’s behalf. The $7,000 includes the extra $5,500 tax burden, plus $1,500 for taxes on those dollars. Lucy’s W-2 will reflect $103,000 in earnings ($80,000 + $5,000 + $11,000 + $7,000), but her relocation won’t cost her a penny more in taxes.
Relocation Tax Recommendations for Employers
For employers who depend on their relocation program to acquire and retain top talent, a relocation tax gross up is the number one way to avoid a negative employee experience.
To report relocation benefits properly to the IRS, employers need to track relocation expenses meticulously. The best way to do so is to rely on a third-party relocation management company (or one of their partners) who specializes in this. Managing reimbursements, cash payments and/or direct payments to vendors gets tricky. If a payroll department fails to code these as taxable benefits, employers risk IRS fines and penalties.
What about the additional expense associated with relocation tax gross ups?
These days, smart employers are restructuring their relocation programs to be more cost-effective, using a number of different relocation strategies. In brief, these may include:
- Providing managed lump sum plans, which allow employees to use the funds at their discretion, so dollars go further.
- Offering tiered relocation packages, so employers can scale benefits to different level employees.
- Creating “Discard and Donate” incentives, which cut moving costs by incentivizing employees to donate their household goods to charity rather than move them.