What are the requirements for a section 119 exclusion?
The New York Times reported last month that some museum executives in Manhattan receive tax-free housing because the museum classifies their apartments as “business premises”. (Plum Benefit to Cultural Post: Tax-Free Housing by Kevin Flynn and Stephanie Strom. August 9, 2010.) Tax experts cited in the article disagree as to whether the museums’ reliance on the “business premises” tax exclusion is advisable.
Normally, an employee must pay income tax on the fair market value of rent on housing that the employer provides. However, under section 119 of the Internal Revenue Code (IRC), the employee may exclude the value of housing from her income if the employee must live on the employer’s “business premises.” IRC Regulation §1.119-1(b) states that the Section 119 exclusion is permissible if all three of the following conditions are satisfied:
1. The employee’s residence is located on the employer’s business premises.
2. The employer furnishes the residence for its own convenience.
3. The employee must accept the residence as a condition of employment.
According to the New York Times article: Ellen V. Futter, president of the American Museum of Natural History, lives with her family in an apartment across town owned by the museum. The museum requires her to live there as part of her job. She hosts fundraising events for donors in the apartment. She does not pay income tax on the fair market value rent for the apartment, which the museum estimated to be $89,000 in 2009.
Anne Canty, a museum spokeswoman, said to the New York Times: “[t]he museum’s use of its apartment has been reviewed several times over the years by outside auditors and counsel, and all have found the museum’s use to be appropriate.”
Whether this situation adheres to Section 119 requires further analysis. Section 119’s first condition, that the executive’s apartment must be located on the museum’s “business premises”, is debatable. The museum argues that wealthy donors prefer to participate in social gatherings at the executive’s apartment to encourage their philanthropy. The apartment serves an integral role in the fundraising process that provides the museum with its operating income. Therefore, the apartment advances the needs of the museum’s business, so it may be classified as “business premises.” However, if fundraising events occur infrequently and haphazardly at the apartment, one may question whether the fundraising use of the apartment substantially contributes to the museum’s business operation. The museum declined to reveal to the New York Times how frequently it holds fundraising events at the apartment.
Daniel S. Goldberg, a law professor at the University of Maryland who specializes in taxation, said to the New York Times: ““It’s difficult to successfully argue one of these because they seem to stretch the purpose of the ‘business premises’ exclusion in the tax code.”
The second condition for the section 119 exclusion—that the employer furnishes the apartment for its own convenience—seems plausible. The third condition—that the executive must live there as a condition of her employment—is fulfilled, according to the museum spokeswoman. Therefore, the only possible weakness in the museum’s tax position is its decision that occasional fundraising events suffice to define a residence as a “business premises.”
Many museums provide housing for their executives as part of the compensation package. Some museums, in similar situations where the residence is sometimes used for fundraising events, reported the value of housing as income for the executive, and did not claim a section 119 exclusion.
Whether a section 119 exclusion can be taken depends on the facts and circumstances of each particular case. However, it is clear that in order to prevent running afoul of the tax code, it is essential that all three prongs of IRC Regulations §1.119-1(b) be strictly followed.
The reader should consult a competent tax professional for advice in practical situations.
References and Further Reading
Tax Planning Aspects of the Section 119 Lodging Exclusion by Rolf Auster, The National Public Accountant, 1994.
IRS Publication 15-B: Employer’s Tax Guide to Fringe Benefits. Section heading: “Lodging on Your Business Premises”.
Fringe Benefits (IRS booklet) discusses “Meals and Lodging” in section 11, pages 41-48.
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