Imputed income, or the value of non-cash benefits, impacts your tax return by increasing your taxable income, and income-partners.net understands this. Let’s explore how this hidden income affects your tax obligations and how to navigate the complexities, empowering you to optimize your tax strategy. Discover valuable insights to strategically grow your business and partnership opportunities.
1. Understanding Imputed Income: What It Is and Why It Matters
Imputed income refers to the value of non-cash benefits that employees receive from their employers. These benefits, also known as fringe benefits, are considered part of an employee’s total compensation and are therefore subject to taxation. Understanding imputed income is crucial for both employers and employees to ensure accurate tax reporting and compliance.
1.1. Definition of Imputed Income
Imputed income is the cash value assigned to non-cash benefits or services provided to employees by their employers. These benefits are not paid in the form of wages or salary but are considered compensation for services rendered. The IRS treats these benefits as taxable income, requiring employers to report them and withhold taxes accordingly.
1.2. Why Imputed Income Matters
Imputed income matters for several reasons:
- Tax Compliance: It ensures that all forms of compensation, including non-cash benefits, are properly taxed, preventing tax evasion.
- Accurate Reporting: Employers must accurately calculate and report the value of fringe benefits to both employees and the IRS.
- Financial Planning: Employees need to understand how imputed income affects their overall tax liability to plan their finances effectively.
- Fairness: It ensures that employees receiving non-cash benefits are taxed comparably to those receiving cash compensation.
1.3. Examples of Taxable Fringe Benefits
Many fringe benefits can result in imputed income. The most common examples include:
- Personal Use of Company Car: If an employee uses a company-owned vehicle for personal purposes, the value of that use is considered imputed income.
- Group-Term Life Insurance: Coverage exceeding $50,000 is taxable, with the cost of coverage above this amount considered imputed income.
- Dependent Care Assistance: Employer-provided dependent care benefits exceeding certain limits are taxable.
- Educational Assistance: Amounts exceeding $5,250 annually are considered taxable income.
- Employee Discounts: Discounts on company products or services that exceed certain thresholds are taxable.
- Health Coverage for Domestic Partners: If an employer provides health coverage for an employee’s domestic partner, the value of that coverage may be considered imputed income.
1.4. Non-Taxable Fringe Benefits
Not all fringe benefits are taxable. Some benefits are excluded from imputed income under specific conditions:
- De Minimis Benefits: These are small, infrequent benefits that are impractical to account for, such as occasional office snacks or holiday gifts of minimal value.
- Working Condition Fringe Benefits: These are benefits provided to employees that allow them to perform their job duties, such as a company car used exclusively for business purposes.
- Qualified Transportation Fringe Benefits: These include benefits such as transit passes and qualified parking, up to certain monthly limits.
- On-Premises Meals: Meals provided to employees on the employer’s premises for the employer’s convenience are often excluded from taxable income.
2. How Imputed Income Affects Your Tax Return: A Detailed Breakdown
Imputed income can significantly impact your tax return, influencing your overall tax liability and potentially affecting your tax bracket. Understanding how it’s calculated, reported, and taxed is crucial for accurate tax planning.
2.1. Calculation of Imputed Income
Calculating imputed income involves determining the fair market value (FMV) of the non-cash benefit provided to the employee. The FMV is the price an employee would have to pay a third party to obtain the same benefit. Employers must use reasonable methods to determine the FMV, considering all relevant facts and circumstances.
2.2. Reporting Imputed Income on Form W-2
Employers are required to report imputed income on Form W-2, Wage and Tax Statement. The imputed income is included in Box 1, “Wages, tips, other compensation.” Additionally, the specific type and amount of the fringe benefit may be detailed in Box 14, which is used for informational items.
2.3. Impact on Taxable Income
Imputed income increases an employee’s taxable income, which is the basis for calculating income tax liability. The higher the taxable income, the more tax an employee owes. This can also potentially push an employee into a higher tax bracket, resulting in a greater percentage of their income being taxed.
2.4. Federal Income Tax Withholding
Employers must withhold federal income tax on imputed income. They have two primary methods for doing so:
- Aggregate Method: The employer adds the imputed income to the employee’s regular wages for the payroll period and calculates the income tax withholding on the total amount.
- Supplemental Wage Method: The employer withholds income tax on the imputed income at a flat rate (e.g., 22% for amounts under $1 million in 2024).
2.5. FICA Taxes: Social Security and Medicare
Imputed income is also subject to Federal Insurance Contributions Act (FICA) taxes, which include Social Security and Medicare taxes. Employers must withhold these taxes from the imputed income and remit them to the IRS. The Social Security tax rate is 6.2% on wages up to a certain annual limit (e.g., $168,600 in 2024), and the Medicare tax rate is 1.45% on all wages.
2.6. State and Local Taxes
In addition to federal taxes, imputed income may also be subject to state and local income taxes, depending on the jurisdiction. Employers must comply with the specific tax laws of the state and locality where the employee works.
2.7. Example Scenario
Let’s consider an example to illustrate the impact of imputed income on an employee’s tax return:
Scenario:
- An employee receives a salary of $60,000 per year.
- The employee also receives personal use of a company car valued at $5,000 annually.
- The employee’s total taxable income is $65,000 ($60,000 salary + $5,000 imputed income).
Impact:
- The employee’s federal income tax liability will be calculated based on $65,000 rather than $60,000.
- The employee will also pay Social Security and Medicare taxes on the $5,000 imputed income.
2.8. Strategies to Minimize the Impact
While imputed income is taxable, there are strategies employees and employers can use to minimize its impact:
- Opt for Tax-Advantaged Benefits: Choose benefits that are tax-exempt, such as contributions to retirement accounts or health savings accounts (HSAs).
- Negotiate Cash Compensation: If possible, negotiate for higher cash compensation instead of taxable fringe benefits.
- Maximize Deductions and Credits: Take advantage of all available tax deductions and credits to reduce overall tax liability.
3. Common Fringe Benefits and Their Imputed Income Implications
Navigating the world of fringe benefits and their imputed income implications can be complex. Understanding how different benefits are treated for tax purposes is essential for both employers and employees. Let’s delve into some common fringe benefits and their specific tax implications.
3.1. Company Cars
One of the most common fringe benefits is the use of a company-owned vehicle. When an employee uses a company car for personal purposes, the value of that personal use is considered imputed income. The IRS provides several methods for determining the value of this benefit:
- Fair Market Value (FMV) Method: This method calculates the FMV of the personal use of the car, considering factors such as lease value, mileage, and other operating costs.
- Cents-Per-Mile Method: This method uses a standard mileage rate (set annually by the IRS) to calculate the value of personal miles driven. In 2024, the standard mileage rate for business use is 67 cents per mile.
- Commuting Rule: If the company car is primarily used for business, the commuting value might be calculated at a fixed amount per one-way commute.
Example:
- An employee drives a company car 10,000 miles for personal use. Using the cents-per-mile method, the imputed income would be $6,700 (10,000 miles x $0.67).
3.2. Group-Term Life Insurance
Employers often provide group-term life insurance as a benefit. The cost of coverage up to $50,000 is tax-free to employees. However, if the coverage exceeds $50,000, the cost of the excess coverage is considered imputed income. The IRS provides a table to determine the cost of the excess coverage based on the employee’s age.
Example:
- An employee has $100,000 of group-term life insurance coverage. The cost of the $50,000 excess coverage is determined using the IRS table and added to the employee’s taxable income.
3.3. Health Insurance for Domestic Partners
Providing health insurance coverage for an employee’s domestic partner can have imputed income implications. If the domestic partner does not qualify as a dependent under IRS rules, the value of the health coverage is considered imputed income. This is because the benefit is not tax-free as it would be for a spouse or dependent.
Example:
- An employer provides health insurance to an employee and their domestic partner. The cost of the coverage for the domestic partner is $4,000 annually. This amount is treated as imputed income for the employee.
3.4. Employee Discounts
Employee discounts on company products or services are a common perk. However, these discounts can result in imputed income if they exceed certain limits. The tax treatment depends on the type of discount:
- Service Discounts: The discount cannot exceed 20% of the price at which the services are offered to non-employee customers.
- Product Discounts: The discount cannot exceed the employer’s gross profit percentage.
Example:
- An employee receives a 30% discount on services that are normally offered to customers. If the discount exceeds 20%, the excess is considered imputed income.
3.5. Educational Assistance
Employers may offer educational assistance to employees to help them further their education. Up to $5,250 of educational assistance is tax-free. However, amounts exceeding this limit are considered taxable income.
Example:
- An employer provides $7,000 in educational assistance to an employee. The amount exceeding $5,250 ($1,750) is treated as imputed income.
3.6. Dependent Care Assistance
Dependent care assistance programs help employees pay for childcare expenses. Up to $5,000 of dependent care assistance is tax-free for married couples filing jointly (or $2,500 for single individuals). Amounts exceeding these limits are considered taxable income.
Example:
- An employer provides $6,000 in dependent care assistance to an employee. The amount exceeding $5,000 ($1,000) is treated as imputed income.
3.7. Housing
If an employer provides housing to an employee, the value of the housing is generally considered imputed income. However, there is an exception if the housing is provided for the convenience of the employer, is located on the employer’s business premises, and is a condition of employment.
Example:
- A property manager is required to live in an apartment on the premises of the apartment complex they manage. If the housing meets the conditions mentioned above, it may be excluded from imputed income.
3.8. Meals
Meals provided to employees are generally considered taxable income. However, there are exceptions for meals provided on the employer’s premises for the employer’s convenience. For example, meals provided at a company cafeteria may be excluded from taxable income.
Example:
- A company provides free lunches to employees in its cafeteria. These meals may be excluded from imputed income if they are provided for the employer’s convenience.
4. Navigating IRS Guidelines and Publications on Imputed Income
To fully understand and comply with imputed income tax rules, it’s essential to consult official IRS guidelines and publications. These resources provide detailed information, examples, and instructions for employers and employees.
4.1. IRS Publication 15-B: Employer’s Tax Guide to Fringe Benefits
One of the most comprehensive resources for understanding imputed income is IRS Publication 15-B, Employer’s Tax Guide to Fringe Benefits. This publication provides detailed information on various types of fringe benefits, their tax treatment, and how to calculate and report imputed income. It covers topics such as:
- Definition of fringe benefits
- Taxable vs. non-taxable benefits
- Valuation methods for fringe benefits
- Reporting requirements
- Examples and illustrations
Employers should regularly consult this publication to stay updated on the latest rules and regulations regarding fringe benefits and imputed income.
4.2. IRS Regulations and Revenue Rulings
In addition to Publication 15-B, employers and employees should also be aware of relevant IRS regulations and revenue rulings. These documents provide more detailed guidance on specific issues related to imputed income. IRS regulations are the official interpretation of the tax law, while revenue rulings provide guidance on how the IRS applies the law to specific factual situations.
4.3. IRS Form W-2 Instructions
The instructions for Form W-2, Wage and Tax Statement, provide guidance on how to report imputed income on the form. These instructions explain which boxes to use for reporting different types of fringe benefits and how to calculate the amounts to be reported.
4.4. Seeking Professional Tax Advice
Navigating the complexities of imputed income can be challenging, especially for small business owners and individuals with complex financial situations. Consulting a qualified tax professional can provide personalized advice and guidance tailored to your specific circumstances. A tax professional can help you:
- Identify potential fringe benefits that may result in imputed income
- Calculate the value of imputed income accurately
- Develop strategies to minimize the impact of imputed income on your tax liability
- Ensure compliance with all applicable tax laws and regulations
4.5. Online Resources and Tools
The IRS website (IRS.gov) offers a variety of online resources and tools to help taxpayers understand and comply with tax laws, including those related to imputed income. These resources include:
- Tax publications and forms
- Frequently asked questions (FAQs)
- Tax calculators and estimators
- Online tutorials and webinars
4.6. Case Studies and Examples
Studying real-life case studies and examples can help illustrate how imputed income rules apply in different situations. These examples can provide valuable insights and practical guidance for employers and employees. For example, a case study might examine how a company car benefit is valued and reported, or how health insurance coverage for a domestic partner is treated for tax purposes.
4.7. Staying Updated on Tax Law Changes
Tax laws and regulations are subject to change, so it’s essential to stay updated on the latest developments. Employers should subscribe to IRS email updates and monitor tax news sources to stay informed about any changes that may affect imputed income rules.
4.8. Common Mistakes to Avoid
When dealing with imputed income, there are several common mistakes that employers and employees should avoid:
- Failure to Report: Not reporting imputed income on Form W-2 can result in penalties and interest charges.
- Incorrect Valuation: Using an incorrect valuation method can lead to underreporting or overreporting of imputed income.
- Misclassification of Benefits: Incorrectly classifying a taxable benefit as non-taxable can result in tax errors.
- Ignoring State and Local Taxes: Neglecting to consider state and local taxes on imputed income can lead to non-compliance.
5. Strategies for Employers to Manage Imputed Income
Employers play a crucial role in managing imputed income, ensuring compliance with tax laws, and providing accurate information to employees. Implementing effective strategies can help streamline the process and minimize potential errors.
5.1. Accurate Valuation of Fringe Benefits
The first step in managing imputed income is to accurately determine the value of fringe benefits provided to employees. Employers should use reasonable and consistent methods for valuing these benefits, considering all relevant factors. Some common valuation methods include:
- Fair Market Value (FMV): This method uses the price an employee would have to pay a third party to obtain the same benefit.
- Cents-Per-Mile: This method uses a standard mileage rate to calculate the value of personal use of a company car.
- IRS Tables: The IRS provides tables for valuing certain benefits, such as group-term life insurance coverage.
5.2. Clear Communication with Employees
Employers should clearly communicate with employees about the fringe benefits they receive and the imputed income implications. This communication should include:
- A description of the benefit
- The value of the benefit
- How the benefit will affect their taxes
- Any options they have for reducing the impact of imputed income
5.3. Proper Withholding and Reporting
Employers are responsible for withholding and reporting taxes on imputed income. This includes:
- Withholding federal income tax, Social Security tax, and Medicare tax from the imputed income.
- Reporting the imputed income on Form W-2, Wage and Tax Statement.
- Filing Form 941, Employer’s Quarterly Federal Tax Return, to report the withheld taxes.
5.4. Implementing a Fringe Benefit Policy
Having a written fringe benefit policy can help employers manage imputed income more effectively. The policy should outline:
- The types of fringe benefits offered
- Eligibility requirements
- Valuation methods
- Tax treatment
- Reporting procedures
5.5. Regular Review and Updates
Tax laws and regulations are subject to change, so employers should regularly review and update their fringe benefit policies and procedures to ensure compliance. This review should include:
- Monitoring IRS publications and announcements
- Consulting with a tax professional
- Updating valuation methods and reporting procedures as needed
5.6. Utilizing Technology and Software
Technology can help automate many aspects of imputed income management. Employers can use payroll software or other tools to:
- Calculate the value of fringe benefits
- Withhold and report taxes
- Generate Form W-2s
- Track employee benefits
5.7. Providing Employee Education
Employers can help employees better understand imputed income by providing educational resources and training. This can include:
- Workshops and seminars
- Online resources and tutorials
- One-on-one consultations with a tax professional
5.8. Considering Tax-Advantaged Benefits
Employers can help employees reduce their tax liability by offering tax-advantaged benefits, such as:
- Health savings accounts (HSAs)
- Flexible spending accounts (FSAs)
- Retirement plans (401(k)s)
- Commuter benefits
5.9. Outsourcing Payroll and Tax Functions
Small businesses may find it challenging to manage imputed income and other tax-related tasks. Outsourcing payroll and tax functions to a professional service provider can help ensure compliance and reduce administrative burden.
6. How to File Your Tax Return with Imputed Income
Filing your tax return when you have imputed income involves several key steps to ensure accuracy and compliance. Here’s a guide to help you navigate the process.
6.1. Gather Necessary Documents
Before you begin filing your tax return, gather all the necessary documents, including:
- Form W-2: This form reports your wages and other compensation, including any imputed income.
- Form 1040: This is the standard form used for filing your individual income tax return.
- Other Relevant Documents: You may need other documents to claim deductions or credits, such as receipts for deductible expenses.
6.2. Locate Imputed Income on Form W-2
Imputed income is reported on Form W-2 in Box 1, “Wages, tips, other compensation.” It may also be listed separately in Box 14, which is used for informational items.
6.3. Report Income on Form 1040
Report your total income, including imputed income, on Form 1040. Follow the instructions on the form to calculate your adjusted gross income (AGI) and taxable income.
6.4. Claim Deductions and Credits
Take advantage of all available deductions and credits to reduce your tax liability. Some common deductions and credits include:
- Standard deduction or itemized deductions
- Child tax credit
- Earned income tax credit
- Education credits
- Retirement savings contributions credit
6.5. Calculate Your Tax Liability
Use the tax tables or tax rate schedules provided by the IRS to calculate your tax liability based on your taxable income.
6.6. Pay Any Taxes Owed or Claim a Refund
If you owe taxes, pay them by the tax filing deadline (typically April 15). You can pay online, by mail, or by electronic funds withdrawal. If you are due a refund, you can choose to receive it by direct deposit or paper check.
6.7. File Your Tax Return
File your tax return electronically or by mail. Electronic filing is generally faster and more secure. If you file by mail, be sure to send your return to the correct IRS address.
6.8. Keep Records
Keep copies of your tax return and all supporting documents for at least three years. This will be helpful if you need to amend your return or respond to an IRS inquiry.
6.9. Seek Professional Assistance if Needed
If you are unsure about how to file your tax return or have complex tax issues, consider seeking professional assistance from a qualified tax preparer or accountant. They can help you navigate the tax laws and ensure that you file your return accurately and on time.
6.10. Use Tax Software
Tax software can simplify the process of filing your tax return. These programs guide you through the steps, calculate your tax liability, and help you identify potential deductions and credits.
6.11. Review Your Return Carefully
Before filing your tax return, review it carefully to ensure that all information is accurate and complete. Check for any errors or omissions that could delay processing or result in penalties.
7. The Future of Fringe Benefits and Imputed Income
The landscape of fringe benefits and imputed income is constantly evolving, influenced by changes in tax laws, economic conditions, and workforce trends. Understanding these trends can help employers and employees prepare for the future.
7.1. Impact of Tax Law Changes
Tax laws are subject to change, and these changes can have a significant impact on the treatment of fringe benefits and imputed income. Employers and employees should stay informed about any new legislation or regulations that could affect their tax liability.
7.2. Growing Importance of Non-Cash Compensation
As the competition for talent intensifies, employers are increasingly using non-cash compensation to attract and retain employees. This trend is likely to continue in the future, making it even more important to understand the imputed income implications of these benefits.
7.3. Remote Work and Location-Based Benefits
The rise of remote work has led to new challenges and opportunities for employers when it comes to fringe benefits. Companies may need to consider location-based benefits, such as stipends for home office equipment or internet access, and how these benefits are treated for tax purposes.
7.4. Focus on Employee Well-Being
There is a growing emphasis on employee well-being, and employers are offering more benefits to support their employees’ physical, mental, and financial health. These benefits may include wellness programs, mental health services, and financial planning assistance.
7.5. Increasing Scrutiny from the IRS
The IRS is likely to increase its scrutiny of fringe benefits and imputed income in the future. Employers should ensure that they are accurately valuing and reporting these benefits to avoid potential audits and penalties.
7.6. Personalization of Benefits
Employees are increasingly demanding personalized benefits that meet their individual needs. Employers may need to offer a wider range of benefits and allow employees to choose the benefits that are most valuable to them.
7.7. Technology and Automation
Technology will continue to play a key role in managing fringe benefits and imputed income. Employers can use technology to automate processes, improve accuracy, and reduce administrative burden.
7.8. Increased Transparency
Employees are demanding greater transparency about their compensation and benefits. Employers should provide clear and concise information about the value of fringe benefits and how they are taxed.
8. Case Studies: Real-World Examples of Imputed Income
Examining real-world case studies can provide valuable insights into how imputed income rules apply in different situations. Here are a few examples.
8.1. Case Study 1: Company Car Benefit
Background:
- A sales representative uses a company car for both business and personal purposes.
- The company pays for all operating expenses, including gas, maintenance, and insurance.
Imputed Income Calculation:
- The company uses the cents-per-mile method to calculate the value of the personal use of the car.
- The sales representative drives 10,000 miles for personal use.
- The IRS standard mileage rate for business use is 67 cents per mile (in 2024).
- The imputed income is $6,700 (10,000 miles x $0.67).
Tax Implications:
- The company reports $6,700 of imputed income on the sales representative’s Form W-2.
- The sales representative pays federal income tax, Social Security tax, and Medicare tax on the $6,700.
8.2. Case Study 2: Group-Term Life Insurance
Background:
- An employer provides group-term life insurance coverage of $150,000 to its employees.
- The cost of the coverage exceeding $50,000 is taxable to the employees.
Imputed Income Calculation:
- The employee’s age is 45.
- The IRS provides a table to determine the cost of the excess coverage based on age.
- The cost per $1,000 of coverage for a 45-year-old is $0.15 per month.
- The excess coverage is $100,000.
- The monthly cost of the excess coverage is $15 ($100,000 / $1,000 x $0.15).
- The annual imputed income is $180 ($15 x 12).
Tax Implications:
- The employer reports $180 of imputed income on the employee’s Form W-2.
- The employee pays federal income tax, Social Security tax, and Medicare tax on the $180.
8.3. Case Study 3: Health Insurance for Domestic Partner
Background:
- An employer provides health insurance coverage to an employee and their domestic partner.
- The domestic partner does not qualify as a dependent under IRS rules.
Imputed Income Calculation:
- The cost of the health insurance coverage for the domestic partner is $5,000 per year.
- This amount is treated as imputed income for the employee.
Tax Implications:
- The employer reports $5,000 of imputed income on the employee’s Form W-2.
- The employee pays federal income tax, Social Security tax, and Medicare tax on the $5,000.
8.4. Case Study 4: Employee Discount
Background:
- A retail store offers employees a 40% discount on merchandise.
- The store’s gross profit percentage is 30%.
Imputed Income Calculation:
- The discount exceeds the employer’s gross profit percentage.
- The excess discount is 10% (40% – 30%).
- If an employee purchases $1,000 worth of merchandise, the excess discount is $100 ($1,000 x 10%).
- This amount is treated as imputed income for the employee.
Tax Implications:
- The employer reports $100 of imputed income on the employee’s Form W-2.
- The employee pays federal income tax, Social Security tax, and Medicare tax on the $100.
9. FAQs: Addressing Common Questions About Imputed Income
Understanding imputed income can be complex, and many questions often arise. Here are some frequently asked questions to help clarify common concerns.
9.1. What is the definition of imputed income?
Imputed income is the value of non-cash benefits or services provided to employees by their employers that are considered taxable compensation.
9.2. How does imputed income affect my tax return?
Imputed income increases your taxable income, which can increase your tax liability and potentially push you into a higher tax bracket.
9.3. What are some examples of common fringe benefits that can result in imputed income?
Common examples include personal use of a company car, group-term life insurance coverage exceeding $50,000, health insurance for domestic partners, employee discounts exceeding certain limits, educational assistance exceeding $5,250, and dependent care assistance exceeding certain limits.
9.4. Are all fringe benefits taxable?
No, not all fringe benefits are taxable. Some benefits, such as de minimis benefits, working condition fringe benefits, and qualified transportation fringe benefits, are excluded from taxable income.
9.5. How is imputed income calculated?
Imputed income is calculated by determining the fair market value (FMV) of the non-cash benefit provided to the employee.
9.6. Where can I find imputed income on my Form W-2?
Imputed income is reported on Form W-2 in Box 1, “Wages, tips, other compensation.” It may also be listed separately in Box 14, which is used for informational items.
9.7. How do I report imputed income on my tax return?
Report your total income, including imputed income, on Form 1040. Follow the instructions on the form to calculate your adjusted gross income (AGI) and taxable income.
9.8. Can I reduce the impact of imputed income on my taxes?
Yes, you can reduce the impact of imputed income by taking advantage of all available deductions and credits, such as the standard deduction or itemized deductions, child tax credit, earned income tax credit, education credits, and retirement savings contributions credit.
9.9. What is IRS Publication 15-B, and why is it important?
IRS Publication 15-B, Employer’s Tax Guide to Fringe Benefits, is a comprehensive resource that provides detailed information on various types of fringe benefits, their tax treatment, and how to calculate and report imputed income. It is an essential resource for employers to ensure compliance with tax laws and regulations.
9.10. Should I seek professional tax advice regarding imputed income?
If you are unsure about how to handle imputed income or have complex tax issues, it is always a good idea to seek professional assistance from a qualified tax preparer or accountant. They can provide personalized advice and guidance tailored to your specific circumstances.
Navigating the complexities of imputed income can be challenging, but understanding the rules and regulations is essential for both employers and employees. By staying informed and seeking professional advice when needed, you can ensure compliance and minimize the impact of imputed income on your taxes.
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