The Internal Revenue Service has ruled that employer incentives encouraging their employees to purchase environmentally friendly hybrid cars, are considered taxable compensation.

The agency said that several companies have reportedly been offering rebates or cash incentives to employees in certain regions to offset the purchase price of the vehicles. Similar to other forms of compensation, these cash incentives will be considered taxable compensation by the government.

Employers should include the cash incentive amounts in employees' compensation reported on year-end Form W-2 earnings statements. The cash incentives are also subject to income tax withholding and employment tax. The tax code only provides an exclusion from income for employee discounts if the employer produces the product and certain other requirements are met.

The tax code already includes incentives for the purchase of hybrid cars. The Alternative Motor Vehicle Credit for hybrid vehicles applies to vehicles purchased on or after Jan. 1, 2006, and it may worth as much as $3,400 for purchases of the most fuel-efficient vehicles.

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