Some people think they can just “write off” all their business travel and entertainment expenses. Well, the answer is you can, but…… There are certain rules involved with deducting travel and entertainment expenses, and then the amount you can deduct is often reduced by half.
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Ordinary and Necessary – Two basic words about deducting travel expenses
To be deductible on your tax return, travel and entertainment expenses must be both ordinary and necessary. An ordinary expense is one that is common and accepted in your industry. A necessary expense is one that is helpful and appropriate for your trade or business. Generally, you also must show that entertainment expenses (including meals) are directly related to, or associated with conducting trade or business.
What you can deduct
You can deduct ordinary and necessary business expenses for yourself and any employees, as long as 1) the employee has a bona fide reason for the travel; and, 2) he/she would otherwise be allowed to deduct the travel expense if you had not paid.
You can deduct the following:
Airline, train or bus tickets, as long as they were not paid for using frequent traveler miles or a similar program. You can deduct trips between the airport or station and your hotel, and between the hotel and temporary work location.
If you drive your own car, you can choose between the standard mileage rate or actual expenses. For 2013, the standard mileage rate is 56.5 cents per mile. If you rent a car, you can deduct the business use portion. For example, if you made a side trip to visit a friend, you could not include the mileage for that trip.
Baggage and shipping
Any baggage, samples, or materials sent between your regular place of business and temporary work location are deductible.
Lodging and Meals
Lodging is deductible, as long as it is necessary for you to sleep or rest to perform your duties. For example, if you needed to drive 8 hours to a meeting, the lodging would be necessary.
Meals include money spent for food, beverages, taxes and tips. They cannot be, in the words of the IRS “lavish or extravagant.” The IRS does not give any additional guidance on what would make an expense “lavish or extravagant” other than this determination is made based on the facts and circumstances. A good rule of thumb is that if you would feel uncomfortable defending the expense in an audit then it is probably lavish and extravagant.
For meal expenses, you can use either the actual cost, or standard meal allowance. The standard meal allowance for most locales in the US was $46 in 2012, and includes meals and incidental expenses such as tips given to porters, baggage carriers, and hotel staff. The first and last day of travel are deducted at 75% of this rate. More Information on per diem rates is available here.
For lodging, use actual expenses, as there is no standard allowance available.
However, if you wish to combine meals and lodging, there is a federal per diem rate. The rates differ according to locale and US rates can be found in IRS Publication 1542.
There is also a High Low Method, which is a simplified method of computing the federal per diem rate. If you choose this method you are given a set amount, based on the location. The per diem amount in 2012 was $242 for high rate locations and $163 for low rate locations
Regardless of the method you choose, all meal expenses are subject to a 50% limit. Due to differences between accounting practices and tax law, you can deduct 100% of your expenses on business books and records, but only half of these are allowed as a tax deduction.
If your meals were provided for, you may take a per diem deduction for the “incidentals only” which includes tips given to hotel staff and porters. This is $5.00 per day and not subject to the 50% limit.
Deducting Entertainment Expenses
In order to deduct entertainment expenses, you must show that the main purpose of the expense was to conduct business, that business was conducted during that period, or future business was expected as a result of the meeting.
The IRS has certain guidelines to follow when determining whether entertainment expenses are deductible. The entertainment must be necessary and ordinary, as defined previously, and it must meet the “directly related” and “associated” tests. Directly related means that the entertainment takes place in a clear business setting, and the main purpose is to conduct business. The term associated means that the entertainment is associated with business, and takes place directly before or after a substantial business discussion. In most cases this means the entertainment is held on the same day as the business discussion, although in some cases, the day prior to, or after, may qualify.
No double dipping is allowed, and if you deduct the cost of meals as a meal expense, you cannot deduct it again as entertainment. Entertainment cannot be lavish or extravagant, and only 50% of entertainment expenses may be deducted.
Travel Deductions For Your Employees
Employees are reimbursed for business related travel on either an accountable plan, or nonaccountable plan.
Basically, under an accountable plan, your employees account for expenses through receipts and documentation within 60 days. You must reimburse them within 120 days after the expenses were paid or incurred, which constitutes a “reasonable period of time” to the IRS. If you have given your employees an advance, this must be made within 30 days of the time the employee will pay or incur the expense.
Under a non-accountable plan, the employer reports the reimbursements as wages on Form W-2. Any combined payment of wages and reimbursement must be specified.
Publication 1542 for the current per diem rates for all locations.
IRS Publication 535, Business Expenses
Publication 463 – Information on travel, meals, and entertainment
High Low Per Diem Rate – . Internal Revenue Bulletin: 2012-42, Notice 2013-63