Proposed Regs Would Replace Current System for Defining No-Additional Cost Services

(Parker Tax Publishing September 2025)

The IRS issued proposed regulations that would revise the guidance on an employer's line or lines of business for purposes of determining the Code Sec. 132 exclusion from gross income for (1) no-additional-cost services, or (2) qualified employee discounts, provided to employees. The regulations would also replace the Enterprise Standard Industrial Classification Manual (ESIC Manual), which has not been updated since 1974, with the North American Industry Classification System (NAICS) as the industry classification system used to determine an employer's line of business for purposes of excluding no-additional-cost services and qualified employee discounts from employees' gross income. REG-132805-17.

Background

Under Code Sec. 132(a)(1) and (2), an individual can exclude from gross income any fringe benefit that qualifies as a "no-additional-cost service" or a "qualified employee discount," respectively. Code Sec. 132(b) defines a "no-additional-cost service," in part, as any service provided by an employer to an employee for use by such employee if such service is offered for sale to customers in the ordinary course of the line of business of the employer in which the employee is performing services. The term "qualified employee discount" is defined in Code Sec. 132(c)(1), in part, as any employee discount with respect to qualified property or services. Code Sec. 132(c)(4) defines "qualified property or services" as any property (other than real property and other than personal property of a kind held for investment) or services that are offered for sale to customers in the ordinary course of the line of business of the employer in which the employee is performing services.

Reg. Sec. 1.132-4(a)(1) provides that, for purposes of determining whether the exclusion under Code Sec. 132(a)(1) or (2) applies, an individual to whom or on behalf of whom the fringe benefit is provided must have performed substantial services in the employer's line of business that offers such services or property for sale to customers in the ordinary course of business.

In 1938, the Office of Management and Budget (OMB) developed a Standard Industrial Classification (SIC) to use in classifying establishments by type of activity in which the establishments are primarily engaged. Under Reg. Sec. 1.132-4(a)(2)(i), an employer's line of business is determined by reference to the Enterprise Standard Industrial Classification Manual (ESIC Manual) prepared by the OMB. The ESIC Manual was developed to supplement the SIC by providing a standard for use with statistics about enterprises (rather than "establishments," the applicable unit for SIC) by kind of economic activity.

An employer is considered to have more than one line of business if the employer offers for sale to customers property or services in more than one two-digit code classification referred to in the ESIC Manual.

Proposed Regulations

On August 6, the IRS issued proposed regulations that will, if adopted, replace the present business classification system with a more current classification system that will be updated every five years. Under the proposed regulations, the application of the no additional-cost benefit and employee discount exclusions from employee income under Code Sec. 132(a)(1) and (2) would be determined under a classification system that more accurately reflects current economic activity.

The proposed regulations also would replace the ESIC Manual, which has not been updated since 1974, with the NAICS as the industry classification system used to determine an employer's line of business for purposes of excluding no-additional-cost services and qualified employee discounts from employees' gross income pursuant to Code Sec. 132(a)(1) and (2), respectively. As the IRS observed, the NAICS was most recently updated in 2022 and is the most current classification system in the United States, making it a more accurate and detailed reflection of present economic realities.

Finally, the IRS observed that because significant changes and advances in technology have occurred since 1974, many industries are not currently accounted for in the ESIC Manual because they did not exist at the time it was last updated. Examples include internet service providers, cell phone manufacturers, cell phone service providers, and smart phone application designers. The NAICS, on the other hand, is updated regularly to consider new and developing industries.

For a discussion of the rules relating to the exclusion for no-additional-cost services, see Parker Tax ¶123,120.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

Parker Tax Pro Library - An Affordable Professional Tax Research Solution. www.parkertaxpublishing.com

We hope you find our professional tax research articles comprehensive and informative. Parker Tax Pro Library gives you unlimited online access all of our past Biweekly Tax Bulletins, 22 volumes of expert analysis, 250 Client Letters, Bob Jennings Practice Aids, time saving election statements and our comprehensive, fully updated primary source library.

Try Our Easy, Powerful Search Engine

A Professional Tax Research Solution that gives you instant access to 22 volumes of expert analysis and 185,000 authoritative source documents. But having access won’t help if you can’t quickly and easily find the materials that answer your questions. That’s where Parker’s search engine – and it’s uncanny knack for finding the right documents – comes into play

Things that take half a dozen steps in other products take two steps in ours. Search results come up instantly and browsing them is a cinch. So is linking from Parker’s analysis to practice aids and cited primary source documents. Parker’s powerful, user-friendly search engine ensures that you quickly find what you need every time you visit Our Tax Research Library.

Dear Tax Professional,

My name is James Levey, and a few years back I founded a company named Kleinrock Publishing. I started Kleinrock out of frustration with the prohibitively high prices and difficult search engines of BNA, CCH, and RIA tax research products ... kind of reminiscent of the situation practitioners face today.

Now that Kleinrock has disappeared into CCH, prices are soaring again and ease-of-use has fallen by the wayside. The needs of smaller firms and sole practitioners are simply not being met.

To address the problem, I’ve partnered with a group of highly talented tax writers to create Parker Tax Publishing ... a company dedicated to the idea that comprehensive, authoritative tax information service can be both easy-to-use and highly affordable.

Our product, the Parker Tax Pro Library, is breathtaking in its scope. Check out the contents listing to the left to get a sense of all the valuable material you'll have access to when you subscribe.

Or better yet, take a minute to sign yourself up for a free trial, so you can experience first-hand just how easy it is to get results with the Pro Library!

Sincerely,

James Levey

Parker Tax Pro Library - An Affordable Professional Tax Research Solution. www.parkertaxpublishing.com