Why it’s important to establish a formal plan
Whether it’s for employees, board members or other volunteers, your nonprofit organization likely will need to provide reimbursements for expenses at some point. While some nonprofits handle such transactions on an ad hoc basis, you’re better off establishing a formal reimbursement plan. Here’s what you need to know.
Understanding accountable vs. nonaccountable plans
In the eyes of the IRS, expense reimbursement plans generally fall into two main categories: accountable and nonaccountable. The difference can have significant tax implications for both your organization and the person being reimbursed.
Reimbursements made under an accountable plan generally aren’t taxable income for the employee. As such, the nonprofit isn’t required to withhold income taxes or pay the employer’s share of Social Security, Medicare or federal unemployment taxes.
The IRS has established three requirements that a reimbursement plan must satisfy to be deemed accountable and to secure this favorable tax treatment:
- The expenses must have a connection to your organization’s purpose (for example, expenses incurred driving to deliver meals),
- Claimants must adequately substantiate the expenses within 60 days after the expenses were paid or incurred, and
- Claimants must return any excess reimbursement or allowance within 120 days after the expenses were paid or incurred (an excess reimbursement or allowance is the amount by which the organization’s payment exceeds the actual expenses substantiated by the individual seeking reimbursement).
Arrangements where you advance money to an employee or volunteer meet the third requirement only if the advance is reasonably calculated not to exceed the amount of anticipated expenses; and you make the advance within 30 days of the time the recipient pays or incurs the expense.
Nonaccountable plans are those that don’t fulfill the above requirements. Reimbursements made under nonaccountable plans are treated as taxable wages.
Reimbursing for vehicle use
You can reimburse employees for vehicle use at the federal standard mileage rate (65.5 cents per mile for 2023). Volunteers are only entitled to mileage reimbursement at the charity rate of 14 cents per mile, but, unlike employees, they can be reimbursed for commuting mileage.
You also can choose to reimburse employees and volunteers for the actual costs of using their vehicles for your nonprofit’s purposes. That might include gas, lease payments or depreciation, repairs, insurance, and registration fees for employees. For volunteers, the only allowable actual expenses are gas and oil.
Crafting your reimbursement policy
Your reimbursement policy should address several areas, including:
Covered expenses. Make it clear which types of expenses are reimbursable and which aren’t. Be sure to include any restrictions. For example, you might set a limit on the nightly cost for lodging or exclude alcoholic beverages from reimbursable meals.
Substantiation of expenses. Require documentary evidence of travel, mileage and other reimbursable expenses within 60 days. The documentation should include items such as a statement of expenses, receipts (showing the date, vendor, and items or services purchased), and account book, day planner or similar records. The latter should have entries made for each expense at or near the time it was incurred.
Note that the IRS does allow some limited exceptions to its documentation requirements. Specifically, no evidence is necessary for a per diem allowance for out-of-town travel (see “What about per diems?,” below for more information); non-lodging expenses less than $75; or transportation expenses for which a receipt isn’t readily available (for example, fare for public transportation).
Volunteers are entitled to mileage reimbursement at 14 cents per mile, but they can be reimbursed for commuting mileage.
Excess payments. Your policy should require the timely (within 120 days) return of amounts you pay that are more than the substantiated expenses.
Mileage. State the method you’ll use for reimbursement (actual cost or federal rate). Require receipts, as well as the dates of travel and the purpose and number of miles driven.
Leave no doubt
A formal written reimbursement policy can preempt confusion for your staffers, board and other volunteers. It can also reduce your odds of inadvertent tax liability. Your tax advisor can help you develop a policy that protects you and stakeholders seeking reimbursement.
What about per diems?
One approach that can simplify expense reimbursement with employees is to provide a per diem allowance. When you pay a per diem for lodging, meal and incidental expenses, the per diem is treated the same as if made under an accountable plan. As a result, it isn’t reported as wages or other compensation and subject to employment tax withholding and payment (although the excess of your per diem amount over the federal allowable rate is taxable income for the employee if not returned). And as long as the employee provides time, place and business purpose substantiation within 60 days, no receipts are required.
You also can use the “high-low” method to determine the federal per diem rate for travel in the United States. This way you don’t have to check the current rate for the particular destination. For 2023, the federal rate is $297 for travel to “high-cost” locales (including $74 for meals) and $204 for others (including $64 for meals).