Mileage Reimbursement: Asleep At the Wheel
It’s very common for families to ask their employee to perform job tasks using her own car (i.e. errands, drop-offs, pick-ups, etc.). With the high price of gas, mileage reimbursement has become an increasingly important line item on the paystub. This case helps families understand the law regarding mileage reimbursement and how to handle it correctly.
The Smith family had been employing a nanny, Sarah, in Washington, D.C. for about two years. As the family’s needs changed, they asked Sarah to drive their son to his different lessons and extra-curricular activities each week. They asked Sarah to take on this extra responsibility and told her they would raise her hourly rate by $1 if she agreed to drive her own car. Based on a rough estimate of the expected mileage, they thought that a $1 per hour raise would be sufficient to cover the cost of gas. Sarah thought it was fair and reasonable and agreed to it.
Although federal law does not require an employer to reimburse an employee for mileage, the law is stricter in some states. In Washington D.C. for example, the law requires employers to reimburse their employees for all business-related travel expenses incurred as part of the job.
The IRS has established a mileage reimbursement rate that employers should use for employee-driven miles. The rate covers the cost of gasoline as well as general wear and tear on the vehicle. The mileage reimbursement rate is currently set at 55.5 cents per mile.
The IRS does not view mileage reimbursement as compensation and, therefore, it is not taxable to the family or the employee.
Note: Miles driven to and from the job site each day are not considered “on the job.” Any reimbursement for those commute miles is considered compensation and would be subject to taxation.
Even though Sarah agreed to the “raise” and both thought it was a fair and reasonable amount, adding the mileage reimbursement to her “straight” wages ended up hurting both parties.
First, the payments were not accurate. Occasionally, Sarah drove fewer miles than expected and the compensation worked in her favor, but usually there were numerous unexpected errands totalling 30-50 miles per week that Sarah handled without any incremental compensation. Additionally, Sarah was taxed on the mileage pay and, therefore, only pocketed about $0.80 of every dollar. Between the taxes and the unexpected miles, Sarah’s “raise” did not adequately cover her job-related auto expenses.
Because it was handled as “straight” wages instead of a non-taxable reimbursement, the family had to pay employer taxes on every dollar. So, each mileage dollar cost them about $1.10. Worse, the failure to record the mileage appropriately — and reimburse Sarah as required by Washington, D.C. law — exposed the family to a potential legal dispute. If the relationship had ended badly, Sarah could have filed a complaint. The judge would have most likely ruled that she had never received ANY mileage reimbursement (since there was no record of such) and ordered the family to pay her 55.5 cents for every mile.
About 3 months into this new arrangement, Mr. Smith happened to discuss mileage reimbursement with his neighbor who also employs a nanny and uses our service. Realizing that the $1/hour “raise” was a tax and legal mistake, Mr. Smith called us and asked how to fix the situation.
We helped the Smiths figure out the the correct mileage reimbursement for the previous 3 months and reconcile the difference with his employee and the tax agencies. We also produced paystubs reflecting the correct mileage and mileage reimbursement so that both parties would have proper documentation.
How the Whole Thing Could Have Been Avoided
Knowledge is power. The Smith family ended up spending more on wages and taxes than they needed to — all because they didn’t have good guidance on the financial, legal and HR aspects of household employment. Fortunately, in this case, the mistake was relatively small and discovered early.
To help families avoid all of the tax and legal potholes, we continue to invest in educational resources and complimentary consultations. Whether families use our service or not, this 10-minute phone call almost always saves time, money and frustration.
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