It’s Time to Review Expense Deduction Rules
The COVID-19 pandemic isn’t over, but business travel is starting back up. So, it’s a good time to revisit the tax rules for deducting business travel expenses. Note: This article reviews the deductibility of domestic travel expenses; special rules apply to foreign travel.
An employer may deduct an employee’s ordinary and necessary expenses for travel away from home on business. While self-employed individuals may also deduct these expenses, employees aren’t currently permitted to deduct unreimbursed travel or other business expenses. (See the sidebar below)
Travel expenses are “ordinary and necessary” if they’re business-related, reasonable under the circumstances, and not lavish or extravagant. Unfortunately, there’s no bright-line definition of “lavish or extravagant.”
Generally, travel is considered “away from home” if:
- It requires an employee to be away from the general area of his or her tax home for substantially longer than an ordinary day’s work, and
- The employee can’t reasonably be expected to meet the demands of the work without sleep or rest.
Typically, one’s tax home is the general vicinity (city and surrounding suburbs) of his or her regular place of business. Special rules apply for employees who work in several places, don’t have a fixed place of business (for example, because they’re on the road most of the time), or are on temporary assignment away from their regular place of business.
Traveling away from home doesn’t necessarily require an overnight stay. Let’s say you drive to a city four hours away, meet with clients and prospects all day, and then catch a few hours of sleep at a hotel before driving back at 10 p.m. Because it would be unreasonable to expect you to make the round trip in one day without rest, you’re considered to be traveling away from home for tax purposes.
So, what can employers deduct? Deductible travel expenses include, but aren’t limited to:
- Transportation expenses, such as air, rail or bus fares, or the costs of operating and maintaining a car,
- Taxi fares or other local transportation expenses,
- Baggage charges,
- Hotel or other lodging expenses,
- Meal expenses (subject to the rules discussed below),
- Dry cleaning and laundry expenses, and
- Telephone or computer rental expenses.
To substantiate these expenses, employees must keep credit card receipts, canceled checks, bills or other adequate records for all lodging, as well as other travel expenses greater than $75 (although some employers require documentation of all expenses). These records should show the amount, date, place and essential character of the expense.
Ordinarily, business meals (including those consumed while traveling) are 50% deductible. However, under the Consolidated Appropriations Act of 2020, otherwise eligible business meals provided by a restaurant (including carryout) are 100% deductible for 2021 and 2022.
Employers can deduct the cost of meals employees eat alone when traveling. You’re also permitted to take a deduction for meals if 1) a business owner or employee is present, 2) the meal is provided to a business contact (such as a customer, prospect, consultant or vendor), 3) the meal serves an ordinary and necessary business purpose, and 4) the meal isn’t lavish or extravagant.
Entertainment expenses aren’t deductible. But employers may deduct the cost of food or beverages provided during an entertainment activity if they’re purchased separately or stated separately on a receipt or invoice.
Allocation of Business and Pleasure Expenses
If you have employees who travel in the United States primarily for business but also spend some time on personal activities, you can deduct the full cost of their airfare or other transportation to and from the destination. However, lodging, meal and other qualified business expenses are deductible only for the business portion of the trip.
Typically, a trip is considered primarily for business if the employee spends more time on business activities than on personal activities — for example, if he or she spends five days at business meetings followed by a weekend at the beach. If a trip is primarily for pleasure, travel expenses aren’t deductible, although employers may still write off otherwise deductible expenses for business activities during the stay.
Revisit Your Expense Policies
The rules for deducting travel and other business expenses are complex. Instead of deducting actual travel expenses, some businesses simplify the process by providing employees with allowances for lodging, meal and incidental expenses based on federal per-diem rates. If you or your employees have business trips planned soon, review your travel expense policies and consider updating them to maximize your tax benefits and minimize the administrative hassles. Contact us if you have questions regarding the deductibility of domestic travel expenses or to discuss the special rules that apply to foreign travel.
Sidebar: Do You Have an Accountable Plan?
The Tax Cuts and Jobs Act eliminated most miscellaneous itemized deductions, including unreimbursed employee business expenses, through 2025. The best way for employers to ease this burden on employees is to reimburse their business expenses. The employer deducts the expense, and the employee isn’t taxed if the reimbursement is made pursuant to an “accountable plan.”
A plan is accountable if it requires:
- Reimbursed expenses to have a business purpose, and
- Employees to meet certain requirements for substantiating expenses and pay back any excess reimbursements within a reasonable time.
Absent an accountable plan, reimbursements received by employees for business expenses are treated as wages subject to income and payroll taxes.