Employee achievement awards are taxable unless they meet special rules for awards of tangible personal property (such as a watch, television, or golf clubs) given to you in recognition of length of service or safety achievement. Cash awards, gift certificates, and similar items are taxable.
As a general rule, if your employer is allowed to deduct the cost of a tangible personal property award, you are not taxed. Your employer’s deduction limit, and therefore the excludable limit for you, is $400 for awards from nonqualified plans and $1,600 for awards from qualified plans. If your employer’s deduction is less than the item’s cost, you are taxed on the greater of: (1) the difference between the cost and your employer’s deduction, or (2) the difference between the item’s fair market value and your employer’s deduction. Your employer must tell you beforehand if the award qualifies for full or partial tax-free treatment.
An award will not be treated as a tax-free safety achievement award if employee safety achievement awards during the year have already been granted to more than 10% of eligible employees. An award given to an ineligible employee, such as a manager, administrator, clerical employee, or other professional employee, for safety achievement does not qualify for tax-free treatment. If the value of an achievement award item is disproportionately high compared to the employer’s cost, the IRS may conclude that the award is disguised compensation and the entire value would be taxable.
Tax-free treatment also does not apply when you receive an award for length of service during the first five years of employment or when you previously received an award for length of service during the last five years.