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Employee allowances – how should these be treated?

Salary and wages are not the only payments that an employer might make to an employee. An employer might also pay an allowance or reimbursement to their employee. Examples include allowances/reimbursements for business use of a private motor vehicle and reimbursement for meals and accommodation. How should an employer treat these types of payments? Should PAYE be deducted?

The starting point is that a cash allowance or reimbursement is employment income and subject to PAYE unless a specific exemption in the Income Tax Act 2007 applies. There is a general exemption for allowances/reimbursements in s CW 17. This provides that an allowance/reimbursement can be paid tax-free if the expenditure would be an allowable deduction if it were not for the employment limitation. In other words, an allowance or reimbursement can be paid out tax-free provided that the relevant expenditure is business related (i.e. not a private or domestic expense of the employee). If an allowance is being paid (compared to an actual reimbursement), it must be reasonable.

So if an employee purchased tea and coffee supplies for the office using their own money and was later reimbursed by his or her employer, the amount of the reimbursement would not be taxable. On the other hand, say an employee of a construction company paid for private dancing lessons. The employer later chooses to reimburse the employee as a way of thanking them for their hard work. That reimbursement is taxable. This is because the cost of the private dancing lessons have nothing to do with the employer’s business. The cost is a private or domestic expense of the employee.

Recent changes

The Government has recently amended s CW 17. Although there is no intended change in policy, the amendments are an attempt to clarify the requirements for paying tax-free allowances. From 1 April 2015, an allowance/reimbursement will be tax-free if:

  • the expense is incurred because the employee is performing an obligation required by their employment or service, and
  • the employee derives income through the performance of that obligation, and
  • the expense incurred is necessary for the performance of that obligation.

Apart from s CW 17, there are also other exemptions for overtime meal payments, sustenance allowances, relocation payments, and additional transport costs.

Further exemptions have also been introduced by the Government for accommodation allowances paid in relation to:

  • out-of-town secondments and projects;
  • conferences or training courses;
  • multiple workplaces;
  • Canterbury earthquake projects.

The exempt allowances listed above (apart from Canterbury earthquake projects) generally apply from 1 April 2015 but taxpayers can take advantage of them retrospectively if certain conditions are met.

2 Responses

bryan on January 28, 2016 at 8:51 pm

as a group of employees we get paid meal money if we exceed 11hrs on any day. Employer says he wants to tax the meal allowance but we think the tax change does not apply to exsessive hours.
are we right?

Rizwana Saheed on February 2, 2016 at 6:15 am

You are on the right track that there is an exemption when employees work overtime but whether or not the meal allowance is tax-free will depend on your specific circumstances.

For the meal allowance to be tax free ALL of the following conditions have to be met:

• you must have worked at least two hours overtime on the day of the meal; and

• either your employment contract specifies that you are eligible for a payment for overtime hours worked, or your employer has a policy or practice of paying an overtime meal allowance, and

• the allowance reflects the actual meal expenditure incurred by you, or is a reasonable estimate of the expected costs likely to be incurred by you or the group of employees.

“Overtime” means the time worked for the employer on the day beyond your ordinary hours set out your employment contract.

There is also a tax-free “sustenance” allowance that can be paid but this primarily applies to employees who undertake a long period of physical activity travelling through a neighbourhood or district on foot or bicycle (eg. postal delivery workers).

In your case, you’ll need to consider the conditions above to see if the meal allowance can be paid tax-free.

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