As a result of TEA-21 and the Taxpayer Relief Act of 1997, qualified transit and vanpool transportation fringe benefits can now be used in the following ways.
Benefits in Addition to Compensation
Employers may give their employees up to $65 per month in benefits to commute to work by transit or by eligible vanpools. The employer pays for the benefit and receives an equivalent deduction from their business income taxes. Employees receive the benefit completely free of all payroll and income taxes, in addition to their current compensation.
Benefits in Lieu of Compensation
Employers may permit their employees to set aside some of their pre-tax income to pay for transit or eligible vanpools. Employers do not pay for the benefit but permit employees to use some of their gross income to pay for commuting expenses, before taxes are computed, up to $65 per month.
Employees save on payroll and income taxes on the amount of the benefit they purchase, since that amount is no longer treated or reported as taxable salary. Payroll costs for employers are reduced since payroll taxes do not apply to the amount set aside since it is treated as a benefit.
Employers may share the cost of commuting with their employees. Employers can give their employees part of the commuting expense tax-free in addition to their compensation and allow the employees to set-aside part of their gross income (in lieu of compensation) to pay the remaining amount, up to the total monthly limit of $65.
For example, the employer could provide the employee a transit pass worth $35 in addition to salary and the employee could use pre-tax income that is set aside to purchase a pass for $30, for a total monthly benefit of $65. The employer receives an equivalent deduction from its business income taxes while the employee saves on payroll and income taxes on the set aside amount for the balance of the benefit.