Notice 2009-46

Section 162(a) of the Internal Revenue Code provides that a deduction is allowed for all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business. However, § 262(a) provides that, except as otherwise expressly provided, no deduction shall be allowed for personal, living, or family expenses.

Section 274(d)(4) provides that no deduction shall be allowed with respect to any listed property (as defined in § 280F(d)(4)), unless the taxpayer substantiates by adequate records or by sufficient evidence corroborating the taxpayer’s own statement (A) the amount of such expense or other item, (B) the use of the property, (C) the business purpose of the expense or other item, and (D) the business relationship to the taxpayer of persons using the property. The Secretary may by regulations provide that some or all of the requirements of the preceding sentence shall not apply in the case of an expense that does not exceed an amount prescribed pursuant to such regulations.

Section 280F(d)(4)(A)(v) provides that “listed property” includes any cellular telephone (or other similar telecommunications equipment).

Section 1.274-5T(a) of the temporary Income Tax Regulations provides that no deduction or credit shall be allowed with respect to any listed property unless the taxpayer substantiates each element of the expenditure or use. Section 1.274-5T(b)(6) provides that the elements to be proved with respect to any listed property are:

(i) Amount — (A) The amount of each separate expenditure with respect to an item of listed property, such as the cost of acquisition, and (B) the amount of each business use based on the appropriate measure (that is, time) and the amount of total use of the listed property for the taxable period (see § 1.274-5T(e)(2));

(ii) Time — The date of the expenditure or use with respect to the listed property; and

(iii) Business purpose — The business purpose for an expenditure or use with respect to any listed property.

Section 61(a)(1) provides that, except as otherwise provided, gross income includes compensation for services, including fees, commissions, fringe benefits, and similar items. Section 1.61-21(b)(1) of the Income Tax Regulations requires that an employee generally must include in gross income the amount by which the fair market value of a fringe benefit exceeds the sum of (i) the amount, if any, paid for the benefit by or on behalf of the employee, and (ii) the amount, if any, specifically excluded from gross income by some other section of the Code. The fair market value of a fringe benefit is the amount that an individual would have to pay for the particular fringe benefit in an arm’s length transaction. Section 1.61-21(b)(2). The cost incurred by an employer is not determinative of the fair market value of a fringe benefit. Id.

Section 132(a)(3) provides that gross income does not include any fringe benefit that qualifies as a working condition fringe. Section 132(d) provides that “working condition fringe” means any property or services provided to an employee of the employer to the extent that, if the employee paid for such property or services, such payment would be allowable as a deduction under § 162 or § 167.

Section 1.132-5(a)(1)(ii) provides that if, under § 274 or any other section of the Code, certain substantiation requirements must be met in order for a deduction under § 162 or § 167 to be allowable, then those substantiation requirements apply in determining whether a property or service is excludable as a working condition fringe. See also § 1.132-5(c)(1). The substantiation requirements of § 274(d) are satisfied by adequate records or sufficient evidence corroborating the employee’s own statement. Section 1.132-5(c)(2). Therefore, such records or evidence provided by the employee, and relied upon by the employer to the extent permitted by the regulations promulgated under § 274(d), will be sufficient to substantiate a working condition fringe exclusion. Id.

General Requirements

As discussed in greater detail below, the IRS and Treasury Department are considering three alternative methods to simplify the substantiation requirements applicable to employee usage of employer-provided cell phones: a minimal personal use method, a safe harbor substantiation method, and a statistical sampling method (or a combination of the foregoing). Any simplified cell phone substantiation method will be optional; taxpayers may continue to comply with current § 274(d) substantiation requirements.

The IRS and Treasury Department contemplate that any taxpayer who wishes to use a simplified cell phone substantiation method will be required to implement a written policy that requires employees to carry and use the employer-provided cell phones in connection with the employer’s trade or business and that prohibits personal use of employer-provided cell phones, except for minimal personal use, similar to the requirements currently applicable to employer-provided automobiles in § 1.274-6T. In addition, the IRS and Treasury Department anticipate requiring that the employer must reasonably believe that the cell phone is not used for personal purposes except for minimal personal use.

1. Minimal Personal Use Method

The IRS and Treasury Department are considering two proposals that would allow an employer to deem all of an employee’s usage of an employer-provided cell phone as business usage. Under the first proposal, the entire amount of an employee’s use of an employer-provided cell phone would be deemed to be for business purposes if the employee can account to his or her employer with sufficient records to establish that the employee maintains and uses a personal (non-employer-provided) cell phone for personal purposes during the employee’s work hours.

Alternatively, the second proposal would define a specified amount or type of “minimal” personal use that would be disregarded in determining the amount of personal use of an employer-provided cell phone. For example, “minimal” could be defined by reference to a particular number of minutes of use or for certain personal purposes.

2. Safe Harbor Substantiation Method

The IRS and Treasury Department are considering a safe harbor method under which an employer would treat a certain percentage of each employee’s use of an employer-provided cell phone as business usage. The remaining percentage of use would be deemed to be for personal purposes. For this proposal, the IRS and Treasury Department propose a business use percentage of 75 percent.

3. Statistical Sampling Method

The IRS and Treasury Department are considering a proposal that would allow employers to use statistical sampling techniques to measure an employee’s personal use of an employer-provided cell phone. In general, an employer could use an approved statistical sampling methodology similar to that provided in Rev. Proc. 2004-29, 2004-1 C.B. 918, to determine the percentage of personal use of employer-provided cell phones. The employer would multiply that percentage times the value of each employee’s total usage to determine the value of personal usage. The remaining portion of the employee’s usage would be deemed to be for business purposes.

To the extent that an employee’s use of an employer-provided cell phone does not qualify as a working condition fringe benefit (because the employer does not satisfy § 274(d) or the cell phone is used partially for personal purposes), the fair market value of an employee’s use of the employer-provided cell phone is a taxable fringe benefit that is includable in the employee’s gross income. An employer’s cost to provide the cell phone is not determinative of the fair market value of an employee’s fringe benefit. The IRS and Treasury Department are interested in understanding the methods employers currently use to arrive at the fair market value to an employee of an employer-provided cell phone. The IRS and Treasury Department are considering whether a simplified valuation method would be helpful and appropriate to determine such fair market value.