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A new wave of hardships looms on the horizon this fall, as schools reopen with varying strategies and parents and employers alike anticipate the regular cold and flu season. Employees everywhere are questioning what will happen if a family member gets sick, and their household is required to quarantine. Parents have a unique conundrum as schools issue disclaimers and warnings that they may close or move to virtual learning if there is an outbreak of COVID-19. This scenario leaves employees wondering whether they will have enough paid time off to cope with these challenges and keep their families both healthy and financially secure. Employers are cognizant of these concerns and have been striving to develop nimble and practical solutions that can reduce employee stress and uncertainty, all while ensuring their businesses can weather the storm. For many employers, this situation has led them to consider, or reconsider, whether a leave donation/sharing program is right for their company.
What is a Leave Donation or Leave Sharing Program?
Like the name implies, a leave donation program allows an employee to “donate” or “share” their accrued and available paid time off (paid vacation, personal day and potentially sick leave) to assist other employees in need, or to donate to certain categories of charitable organizations. In a typical program, the employee-donated leave goes to an employer-managed leave bank. Employees impacted by natural or major disasters or medical emergencies who need more leave than they have individually accrued may then apply to use leave from the bank.
What are the Benefits of a Leave Donation Program?
The main benefits of a well-planned leave donation/sharing program are tax based. Under normal tax principles, an employee who has the benefit of paid time off and has the opportunity to use that paid time off as they like must pay taxes associated with the benefit. There are exceptions to this general rule for when the employee donates that leave to assist others with medical emergencies, natural disasters, and most recently, charities assisting in the pandemic. If the applicable requirements are met, the donor is not deemed to have constructively received the benefit and it is not deemed income to the donor. Conversely, the donor may not claim a deduction related to the donation. Rather, the ultimate recipient (not the donor) of the leave would realize the amounts received as income and be subject to the applicable employment taxes.
As with most tax exemptions, however, there are regulations governing what donations are allowed this special tax treatment.
Medical Emergencies: Leave donation programs may permit employees to donate leave to another in the event of a medical emergency. A bona fide medical emergency is defined as “a medical condition of the employee or a family member that will require the prolonged absence of the employee from duty and will result in a substantial loss of income to the employee because the employee will have exhausted all paid leave available apart from the leave-sharing plan.” IRS Revenue Ruling 90-29 (“Rev. Rul. 90-29”). In Rev. Rul. 90-29, the IRS allowed favorable tax treatment to a program that:
1. Restricted the grant of donated leave to recipients suffering a bona fide medical emergency as defined above;
2. Restricted the grant of donated leave to recipients who were otherwise eligible for paid time off under the employers policies, but who had already exhausted all their paid leave;
3. Paid leave benefits at the recipient's regular rate of pay; and
4. Had administrative processes in place, which allowed employees to apply for donated leave that was reviewed and approved by the company.
Because there are no specific regulations in place governing leave donation programs for medical emergencies, employers should consider modelling their programs after the one at issue in Rev. Rule 90-29 to try to ensure favorable tax treatment.
Major/Natural Disasters: Employees affected by major disasters may also be eligible to draw leave from an employer-sponsored leave bank. A major disaster is defined as: “(a) a major disaster as declared by the President under § 401 of the Stafford Act, 42 U.S.C., section 5170, that warrants individual assistance or individual and public assistance from the federal government under that Act, or (b) a major disaster or emergency as declared by the President pursuant to 5 U.S.C., section 6391, in the case of employees described in that statute.” Notice 2006-59 (2006-28 IRB 60).
An employer-sponsored leave donation program for major disasters must meet the following requirements:
1. The plan must allow the employee donating leave to deposit unused accrued leave in an employer-sponsored leave bank for the benefit of other employees who have been adversely affected by a major disaster. In this case, an employee is considered adversely affected if the disaster has caused severe hardship to the employee or family member and requires the employee to be absent from work;
2. The plan does not allow a donor to specify a particular recipient of the donated leave;
3. The amount of leave donated in a year may not exceed the maximum amount of leave that an employee normally accrues during the year;
4. A leave recipient may receive paid leave from the leave bank at the recipient's normal rate of pay;
5. The plan must provide a reasonable limit on the period of time after the disaster has occurred, during which leave may be donated and received from the leave bank.
6. A recipient may not receive a cash payout in lieu of taking paid leave;
7. The employer must make a reasonable determination of the amount of leave a recipient may receive; and
8. Leave deposited on account of a particular disaster may be used by only those employees affected by that disaster, and leave not used by recipients by the end of the employer specified time period must be must be returned (in the same proportion it was donated) to the donor. There is an exception to this rule when the amount of remaining leave is so small as to make accounting for it unreasonable or impractical.
The IRS strictly interprets the above requirements and has denied special tax treatment for plans that deviate in minor ways.
Charities Assisting in the Pandemic: During the pandemic, the IRS expanded permissible used of donated leave to allow employees to donate their accrued paid time off or leave to allow their employers to make donations to charities providing “relief” to “victims of the COVID-19 pandemic.” SeeNotice 2020-46. The notice makes clear that employees who donate their accrued but unused paid time off “will not be treated as having constructively received gross income or wages (or compensation, as applicable)” for tax purposes. Notice 2020-46. Conversely, the employee may not claim a charitable deduction for the value of the donated leave. Employers may deduct the value of the donated leave under Section 179 or Section 163 if they can meet the other eligibility requirement set forth in those sections.
Although there are many benefits to developing a leave donation program, there are also some pitfalls.
Complexity: As noted above, the regulations or criteria applied by the IRS to ensure favorable tax treatment can be complex and require the development of administrative practices that may not be feasible for some employers.
Potential Discrimination Claims: There is also the potential that disgruntled employees will claim they were denied leave from the employer bank for a discriminatory reason or purpose, or that the way in which leave was awarded had a discriminatory impact on a particular group of employees. This possibility highlights the need to have neutral and non-discriminatory criteria in place for evaluating applications for leave.
Cashflow/Cost: In normal times, most companies plan on a set amount of leave being granted and taken each year. Similarly, many companies have policies that allow for forfeiture (where permissible) of paid time off if it is not used within a specified time period. If a company implements a leave donation/sharing plan to help employees cope with the pandemic, they can expect a large spike in the amount of paid leave taken. This trend could potentially add to the financial uncertainty many businesses are currently facing.
Tips for Developing a Leave-Sharing Program
While each program will require careful planning to achieve the company's intended goals, there are some basic principles that employers should keep in mind when developing a leave-sharing plan.
• The employer should have a written policy that explains in detail all aspects of the leave-sharing program, including:
• Who can donate leave, when, and how much may be donated;
• Eligibility requirements and limitations (i.e., minimum increments and maximum awards of leave);
• Explanation of the application process, including who may apply for leave, how to apply, and how applications will be evaluated; and
• A form application that requires a specific reason for requesting leave, to help ensure uniformity.
• A leave-sharing program should not be created to respond to a particular employee who has a medical emergency or when a specific natural disaster occurs. If employers are considering implementing a program in response to the pandemic, they should consider whether it is feasible to continue the program in the long-term and draft the program accordingly.
• The situations when an employee may donate accrued paid leave should be limited to situations in which other employees have experienced a personal or family medical emergency, a major disaster, or for the employer to make a donation to a charitable organization in accordance with IRS guidance.
• Granted leave should be paid at the recipient's normal rate of pay.
• Employers should not allow recipients to receive a cash payout in lieu of paid time off.
• Receipt of paid leave should be allowed only when the requesting employee's own accrued paid leave has been exhausted.
• Employers should ensure that all employees’ privacy is respected.
• Employers should ensure the individuals responsible for evaluating leave requests have proper training to ensure fairness and avoid potential discrimination in granting leave.
Employers interested in implementing a leave donation/sharing program should work with experienced employment tax counsel to ensure they comply with IRS guidance to qualify for special tax treatment.