There are tax consequences if an employer provides an employee with local lodging, either temporarily at a nearby hotel or permanently in housing on the employer’s business premises. The general rule is that the value of the lodging must be included in the employee’s wages.
However, if the requirements covered below are met, local lodging expenses are tax-free to the employee and may be deducted as business expenses by the employer—the best possible tax outcome for everyone.
Local Lodging As a Working Condition Fringe Benefit
Sometimes it's not convenient or efficient for employees to go to their homes at night and return to work the next day. Instead, an employer might decide to pay for employees to stay at a local hotel or other nearby lodging. Ordinarily, if an employer pays for an employee’s local lodging expenses, the cost must be included in the employee’s compensation and the employee must pay tax on it.
But if the expenses meet the requirements under either the "safe harbor" test or the "facts and circumstances" test, then the expenses qualify as a working condition fringe benefit. So, if the employer pays for the expense, the cost isn't included in the employee’s taxable wages.
Alternatively, if the employee pays the expense, the employee can take an itemized deduction for the amount.
What Is the Safe Harbor Test?
Under this test, local lodging expenses—that is, hotel or other lodging expenses while an employee is away from home overnight—don't have to be included in the employee’s income if:
- the lodging is necessary for the employee to participate fully in, or be available for, a bona fide business meeting, conference, training activity, or other business function
- the lodging lasts for no more than five calendar days and does not recur more than once per calendar quarter
- the employer requires the employee to remain at the activity or function overnight, and
- the lodging is not lavish or extravagant and doesn't provide any significant element of personal pleasure, recreation, or benefit. (IRS Reg. § 1.162-32(b)).
What Is the Facts and Circumstances Test?
The safe harbor test applies only to local lodging of five days or less. Fortunately, local lodging that doesn't meet the safe harbor test may still be excluded from the employer’s income and deductible by the employer if it satisfies the facts and circumstances test.
To satisfy this test, the local lodging expense must:
- be incurred because of a bona fide condition of employment imposed by the employer
- be for a business purpose and not primarily to provide a social or personal benefit to the employee
- not be considered lavish or extravagant under the circumstances, and
- not provide a significant element of personal pleasure or recreation.
Examples of local lodging that don’t satisfy the facts and circumstances test include:
- providing an employee with a weekend at a luxury hotel or resort
- paying for local lodging to enable an employee to avoid a long distance commute
- providing local lodging to a recently-relocated employee while the employee searches for permanent housing, or
- providing local lodging for an employee's indefinite personal use.
Lodging on the Employer’s Business Premises
Some employers provide lodging to their employees on their business premises—for example, apartment managers are often provided with free lodging in the building. The value of such lodging is a tax-free employee working condition fringe benefit if is:
- provided on the employer’s business premises
- furnished for convenience of the employer, and
- is a condition of the employee's employment.
On the Business Premises
The requirement that the lodging be on the business premises means at the employees' place of work. It doesn't have to be where they do all of their work. Rather, it's enough if the lodging is at a place where they perform a significant part of their duties or where the employer carries on a significant portion of its business activities.
This requirement is easily met when the worker actually lives on the sole business premises, such as a motel manager living in one of the rooms of a motel. However, this requirement can also be met if an employee lives off but near the business premises.
For the Employer’s Convenience
The requirement that the lodging be for the employer’s convenience means the employer provides the lodging for a substantial business reason other than to provide a worker with additional pay or salary. As long as there is a substantial business reason for providing it, lodging can be for the employer's convenience. This applies even if an employment contract says the lodging is furnished as pay or if your state's employment laws require you to provide lodging.
The test for satisfying the convenience of the employer requirement is practically the same as the test for satisfying the condition of employment test. So, when lodging is for the convenience of the employer rule, it's almost always a condition of employment as well.
Condition of Employment
Lodging meets the "condition of employment test" if the worker has to accept the lodging to properly perform the job. The employer doesn’t have to expressly require that the employee accept the housing. Rather, the test is: Can the worker do the job if the worker doesn't accept the housing?
Employer-provided housing enables an employee to properly perform the job when the worker:
- is required to be present for duty at all times, or
- can't perform his or her duties without the housing.
If an employer gives an employee the option of taking or refusing lodging, the lodging probably isn't a condition of employment. Likewise, if a worker is given the choice of getting free lodging on the employer’s business premises or receiving a cash allowance, the lodging doesn't qualify.