Understanding reimbursement and compliance guidelines
Your nonprofit's employees or volunteers are likely to have business-related expenses that they pay out-of-pocket. In the U.S., you must follow certain reimbursement procedures or include the payments in reportable compensation. Here are the best practices for expense reimbursement.
Why should nonprofits use accountable plans for reimbursing expenses?
Reimbursements made under an “accountable plan” as defined by the IRS allow you to reimburse your employees or volunteers for their business-related expenses without including the expenses in their compensation, which might be subject to payroll taxes. In addition, employees or volunteers won't have to report the payments with their taxable income.
To qualify as an accountable plan:
- Expenses must be related to your nonprofit
- The employee or volunteer must account for the expenses within 60 days of incurring the expense
- The employee or volunteer must return any excess reimbursement no more than 120 days after receipt
These rules are aimed at preventing organizations from misclassifying payments to employees and volunteers as reimbursements if they’re actually compensation.
Documenting expenses under an accountable plan: What you need to know
Provide employees and volunteers with a standard expense reimbursement form to be used each time expenses are submitted for reimbursement. The form should answer these questions:
- Who incurred the expense? Issue payment to this person.
- What was purchased? Require original receipts or invoices that describe what was bought, ideally including the name and address of the vendor. If travel is involved, require detailed descriptions of each element, such as mileage to and from the destination. If the expenses include a meal, ask for a list of everyone who shared the meal.
- When and where did the expense occur? Use original receipts or invoices to confirm the dates and places involved.
- What was the business purpose of the expense? Require a brief description of how the expense relates to your nonprofit's work.
Always require documentation to comply with the accountable plan
If your nonprofit reimburses employees or volunteers for expenses through a fixed amount, such as an allowance or a stipend, without requiring documentation, the reimbursements are considered nonaccountable by the IRS.
- The payments must be included on the employee's W-2 or 1099 form and reported as income on the employee's tax return
- The employee's income taxes and Social Security and Medicare taxes must be withheld from the payments
- Your nonprofit must pay the employer's share of the employee's Social Security and Medicare taxes on the payments
If your organization doesn't use an accountable plan, you're able to reimburse expenses that exceed the IRS time limit. However, these payments are still considered taxable.
What's the most effective way to set reimbursement rates?
To keep expenses under control, your nonprofit should set a per diem rate for meals and incidentals. Look to the federal per diem rate, which varies by geographic area and travel destination. Also, the U.S. General Accountability Office (GAO) sets an annual mileage reimbursement rate.
If you adopt reimbursement rates, be sure to clarify to your employees and volunteers what's covered. The GAO has a per diem rate that covers just meals and incidentals, such as taxis, and another rate that covers meals, incidentals and lodging. If your nonprofit pays more per diem or for mileage than the federal rate, the excess amount might be taxable.
What are some other best practices for expense reimbursement?
Make sure your expense reimbursement policy establishes:
- How to book travel. Have you designated one employee to make travel arrangements for everyone, or does the responsibility fall to an external travel agency or the travelling employees themselves? Some organizations allow employees to make their own travel arrangements to gain airline, hotel or other travel rewards for personal use.
- The approval process. When must expenses be submitted and when are approval decisions made? What's the turnaround time to receive reimbursement?
- Regularly scheduled audits. Large organizations may want to consider audits intended to support budget management and fraud and loss protection, or to test specific controls and processes.
Creating expense reimbursement policies can be confusing. If you have questions, ask your attorney or tax advisor for help. Then, share the rules with your employees and volunteers — and stress the importance of compliance.