n-04-46.pdf

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Part III - Administrative, Procedural, and Miscellaneous

Request for comments on the use of debit cards to provide qualified transportation
fringes under section 132(f)

Notice 2004-46

PURPOSE
Employers and others have asked for clarification of their ability to use debit
cards to provide their employees with qualified transportation fringes described under §
132(f). Qualified transportation fringes include transportation in a commuter highway
vehicle (vanpooling), any transit pass, and qualified parking (collectively referred to
herein as “transit benefits”) meeting the requirements of § 132(f). Qualified
transportation fringes are excluded from the employee’s gross income and from wages
for purposes of employment tax.

A qualified transportation fringe includes cash reimbursement for transportation
in a commuter highway vehicle and qualified parking. However, under § 132(f)(3), a
qualified transportation fringe does not include cash reimbursement for a transit pass if
a voucher or similar item that may be exchanged only for a transit pass is readily
available for direct distribution by the employer to the employer's employees. Thus, in
circumstances where vouchers are readily available, an employer must provide
vouchers to its employees in order for a transit pass benefit to be excludable from gross
income and wages under § 132(f). If a qualified transportation fringe can be provided
through cash reimbursement, the employer must use a bona fide reimbursement
arrangement. To meet the requirements for such an arrangement, first the payment
must be a reimbursement, and not an advance. See § 1.132-9(b) Q/A-16(a). Second,
the employee must substantiate to the employer that an expense for a transit benefit
was actually incurred. See § 1.132-9(b) Q/A-16(c). There are monthly limits on the
dollar value of qualified transportation fringe benefits that an employer may provide to
an employee and exclude from the employee’s income and wages. The monthly limits
vary depending upon the type of benefit, and are currently $195 per month for qualified
parking and $100 per month for transit passes.

Treasury and the Service are seeking information about how debit card
technology works. The operation of the technology is directly relevant to answering a
number of questions that arise when applying the qualified transportation fringe benefit
regulations. For example, should a debit card be considered a voucher that may be
exchanged exclusively for a transit pass? If so, should employers be barred from using
cash reimbursement to provide transit passes to their employees as qualified
transportation fringe benefits, even if vouchers are not otherwise readily available? If a
debit card can be used to purchase more than one kind of fringe benefit, does an

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employer provide an advance or a reimbursement when it provides a debit card for use
in purchasing various transportation benefits? Can a debit card system be established
to keep amounts designated for different types of transit benefits separate to ensure
that the statutory monthly limits applicable to the different types of benefits are not
exceeded?

The Service and Treasury request comments on the issues described below, and
any other comments on the use of a debit card to provide transit benefits, from all
persons affected by this issue, including employers, employees, transit operators,
voucher providers, debit card providers, and third party administrators.

BACKGROUND

Section 132(a)(5) provides that any fringe benefit that is a qualified
transportation fringe is excluded from gross income.

Section 132(f)(1) provides that the term "qualified transportation fringe" means
(1) transportation in a commuter highway vehicle between home and work, (2) any
transit pass, and (3) qualified parking. The amount of the fringe benefit which may be
excluded from gross income and wages is currently limited to $100 per month for the
aggregate of transportation in a commuter highway vehicle and transit passes, and
$195 per month for qualified parking. See § 132(f)(2); Rev. Proc. 2003-85, 2003-49
I.R.B. 1184.

Section 132(f)(5)(A) provides that a transit pass means any pass, token,
farecard, voucher or similar item entitling a person to transportation (or transportation at
a reduced price) if such transportation is on mass transit facilities or is provided by any
person in the business of transporting persons for compensation or hire in a commuter
highway vehicle. See § 132(f)(5)(B) for the definition of a commuter highway vehicle.

Section 132(f)(3) provides that a qualified transportation fringe includes a cash
reimbursement by an employer to an employee for transit benefits. However, a
qualified transportation fringe includes cash reimbursement by an employer to an
employee for a transit pass only if a voucher or similar item which may be exchanged
only for a transit pass is not readily available for direct distribution by the employer to
the employee.

Income Tax Regulations § 1.132-9(b) Q/A-16(b)(2) provides that a transit system
voucher is an instrument that may be purchased by employers from a voucher provider
that is accepted by one or more mass transit operators in an area as fare media or in
exchange for fare media. Under § 1.132-9(b) Q/A-16(b)(3), a voucher provider is any
person in the trade or business of selling transit system vouchers to employers, or any
transit system operator that sells vouchers to employers for the purpose of direct

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distribution to employees.

Section 1.132-9(b) Q/A-16(b)(4) provides that a voucher or similar item is readily
available for direct distribution by an employer to employees if and only if the employer
can obtain it from a voucher provider who does not impose fare media charges greater
than 1 percent of the average annual value of the voucher for a transit system, or does
not impose other restrictions causing the voucher not to be considered readily
available. See § 1.132-9(b) Q/A-16(b)(5) and (b)(6).

Section 1.132-9(b) Q/A-16(a) provides that the term qualified transportation
fringe includes cash reimbursement for transportation in a commuter highway vehicle,
transit passes (if permitted), and qualified parking, provided the reimbursement is made
under a bona fide reimbursement arrangement. A payment made before the date an
expense has been incurred or paid is not a reimbursement, even if the employee
certifies in advance that the employee will incur expenses at some future date. Under §
1.132-9(b) Q/A-16(c), a bona fide reimbursement arrangement is an arrangement under
which the employee must substantiate to the employer within a reasonable period of
time that an expense for transit benefits has been paid.

Section 1.132-9(b) Q/A-18 provides that no substantiation is required if the
employer distributes a transit pass (including a voucher) in-kind to the employer’s
employees.

In Rev. Rul. 2003-43, 2003-21 I.R.B. 935, the Service held that under certain
circumstances employer-provided expense reimbursements may be made through a
debit or credit card, or certain other electronic media, and be excludable from gross
income under § 105. The use of a debit card, by itself, generally was not found to be
sufficient to meet the substantiation requirement under § 105(b). Instead, in addition to
requiring that the Merchant Codes for the debit cards be restricted, the employee is
required to substantiate the expense incurred, albeit after the initial transaction. In
addition, under certain circumstances the substantiation requirement can be met without
additional substantiation. First, a payment made at a doctor's office in the amount of a
copayment is deemed to satisfy the substantiation requirement. Second, recurring
expenses that have been previously actually substantiated are deemed to meet the
substantiation requirement. Third, real-time verification at the point of sale is deemed to
meet the substantiation requirement. Other than copayments, recurring expenses, and
real-time substantiation, the revenue ruling requires that expenses paid through a debit
card be treated as conditional pending confirmation of the charge.

ISSUES ON WHICH COMMENTS ARE SPECIFICALLY REQUESTED

1. Given existing technology, under what circumstances, if any, should a debit
card be considered the equivalent of a voucher or similar item described in §

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132(f)(5)(A)? We understand that a debit card may be restricted for use only at
merchants with certain Merchant Codes or specific merchant card terminals. Would a
rule that required use of a debit card to be limited to merchants with certain Merchant
Codes or merchant card terminals be administrable? Would such a rule provide
adequate controls consistent with the statutory objective of ensuring that amounts are
only used to provide transit pass benefits within the meaning of § 132(f)(5)(A)? For
example, under what circumstances could a debit card with Merchant Code restrictions
be used to purchase something other than a transit pass within the meaning of §
132(f)(5)(A)? In addition, under what circumstances should a debit card be restricted
for use only at a particular merchant card terminal in order to be considered a voucher
or similar item for purposes of § 132(f)(3)?

2. If a debit card is a voucher or similar item, should the availability of the debit
card in an area in which a voucher or similar item is otherwise not readily available
preclude cash reimbursement for a transit pass in that area? For example, in
Metropolitan Area A, a voucher or similar item is not considered readily available
because fare media charges imposed by voucher providers in A exceed 1 percent of the
average annual value of vouchers for a transit system. However, the charges
associated with using a debit card in A that is the equivalent of a voucher or similar item
are less than 1 percent of the annual value of the debit card for the transit system.
Should the debit card be considered a readily available voucher in A for purposes of §
132(f)(3), and thus preclude cash reimbursement for a transit pass in A?

3. Is it appropriate to allow the use of recurring transaction substantiation such
as that described in Rev. Rul. 2003-43 to meet the requirement under § 132(f)(3) that a
transit pass benefit be provided through distribution of a voucher or similar item instead
of cash reimbursement? For example, in circumstances in which fare media may be
purchased from a merchant who is not in the trade or business of providing
transportation services, and thus does not have a Merchant Category Code indicating
that the merchant sells only transit passes, e.g., a convenience store, under what
circumstances, if any, should recurring transaction substantiation be deemed to satisfy
the requirement that a voucher or similar item be distributed?

4. Under what circumstances should an expense related to transportation in a
commuter highway vehicle, a transit pass (assuming cash reimbursement is permitted),
or qualified parking paid with a debit card be considered to be a bona fide
reimbursement (i.e., not an advance), and considered adequately substantiated within
the meaning of § 1.132-9(b) Q/A-16(c)?

5. Under what circumstances, if any, could a debit card be used to provide
multiple qualified transportation fringes (e.g., qualified parking and a transit pass), and
adequately ensure that the respective applicable statutory monthly limits for qualified
transportation fringes are not exceeded? Given existing technology (such as multiple

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purses on a debit card, and Merchant Code technology), is it possible, and, if so, how is
it possible, to ensure that amounts designated for a particular benefit are used for the
intended benefit, and thus that the separate applicable statutory monthly limits for
transportation in a commuter highway vehicle and transit passes, and qualified parking
are not exceeded? For example, if an employer provides through the use of a debit
card a $150 monthly benefit for parking and a $100 monthly benefit for transit passes,
how may use of the debit card be restricted to ensure that the respective applicable
statutory monthly limits for qualified parking and other qualified transportation fringes
are not exceeded?

DATES: Written and electronic comments must be submitted by October 19, 2004.

ADDRESSES: Send submissions to: CC:PA:LDP:PR (Notice 2004-46), Room 5203,
Internal Revenue Service, P.O.Box 7604, Ben Franklin Station, Washington, DC 20044.
Submissions may also be hand-delivered Monday through Friday between the hours of
8 a.m. and 4 p.m. to the Courier's Desk at 1111 Constitution Avenue, NW., Washington,
DC 20224, Attn: CC:PA:LPD:PR (Notice 2004-46), Room 5203.

Alternatively, taxpayers may send submissions electronically directly to the Service at:
Notice.comments@irscounsel.treas.gov. All materials submitted will be available for
public inspection and copying.

FOR FURTHER INFORMATION CONTACT:

• Concerning submissions, Guy Traynor at (202) 622-7180.

• Concerning this notice, John Richards of the Office of the Associate Chief
Counsel (Tax Exempt & Government Entities) at (202) 622-6040 (not toll-
free calls).