How to Maximize Tax Deductions Travel and Entertainment Expenses
Learning about deductions for travel and entertainment expenses, including business entertainment expenses and tax cuts, such as the Tax Cuts and Jobs Act (TCJA) of 2017, is important for small businesses. When you’re self-employed or have a small business, there are specific guidelines set by the IRS that, when followed, can help you maximize your tax deductions. In this comprehensive guide, we’ll walk you through determining what expenses are deductible for small businesses, how to document them properly, and the specific requirements you need to meet to claim these deductions.
Taking a client or customer along for tax-deductible promotional entertainment expenses, such as meals, can help cement business relationships and provide a way to help subsidize your expenses. Business entertainment expenses, including tax cuts under the TCJA, are 50% deductible.
4 IRS rules to pass deducting business travel expenses
To meet the criteria for deducting business travel expenses, you need to pass these four tests:
Rule 1: Business Purpose
Your trip must have a clear business purpose, such as client meetings, attending conferences, speaking engagements, research and development, board meetings, or shareholder meetings. These activities should have the potential to generate revenue for your business. To count as a “business” day more than half the (8hr) day must be spent on work activities.
Rules 2 & 3: Ordinary and Necessary
Your trip expenses must be considered both “ordinary” and “necessary” according to IRS guidelines. “Ordinary” means the expenses are typical in your industry regarding their amount, frequency, and purpose. “Necessary” means these expenses contribute to increasing your profits or expanding your business. Read more about “ordinary and necessary” expenses.
Rule 4: Proper Documentation
To claim deductions for your travel as a sole proprietor, it’s crucial to document your expenses thoroughly. You should spend more than half of your business day engaged in business-related activities, and you must keep records. This includes maintaining receipts, a log of your expenses, and documentation that shows what you did during the trip. Additionally, when you have meals with clients, write their names on the receipts for further proof. If you happen to conduct business while you’re on vacay, you can still deduct regular business-related expenses, such as related expenses for meals or transportation. If you’re self-employed, you’ll claim travel expenses on Schedule C, which is part of Form 1040.
The IRS requires that your business trip involves an overnight stay away from your home or regular workplace to qualify for business travel deductions. Meeting these criteria is essential to ensure that your business travel expenses can be deducted for tax purposes.
Understanding Ordinary and Necessary Expenses
Before diving into the specifics of tax deductions for business travel expenses, it’s important to understand the concept of ordinary and necessary expenses.
What are Ordinary Expenses?
The IRS defines an ordinary expense as common and accepted in your industry or trade. In the context of business travel, this means that the expense should be typical and customary for individuals in your line of work. Examples of ordinary expenses for business travel include transportation costs, meals, and lodging.
What are Necessary Expenses?
According to the IRS, a necessary expense is helpful and appropriate for your bona fide business. In other words, the expense should be directly related to the operation of your business and essential for its success. For business travel, necessary expenses include costs incurred while away from your tax home that are directly related to your business activities.
Defining Your Tax Home
Understanding the distinction between your home and your tax home is essential to determining your eligibility for travel deductions. While your home is where you reside, your tax home refers to the location of your primary place of business or employment.
Differentiating Between Home and Tax Home
Your home is where you live permanently, while your tax home is the city or area where your primary place of business is located. It’s important to note that your tax home may not be the same as your family home or where you spend most of your time.
Determining Your Tax Home
To determine your tax home, consider factors such as the location of your main office, where you conduct most of your business activities, and where you spend the majority of your working time. If you are self-employed or have a home-based business, your tax home is typically the city or area where your business is based.
Transportation Expenses
Transportation expenses are a significant component of business travel, and fortunately, many of these costs are deductible. Let’s explore the different types of transportation expenses and how you can maximize your deductions.
Deducting Travel Costs
When it comes to deducting travel costs, you have several options depending on your transportation mode. The actual cost of plane tickets, train tickets, or bus fares can be deducted, along with any baggage fees incurred. However, if you use frequent-flyer miles or other rewards to obtain free tickets, the cost of those tickets is not deductible.
If you choose to rent a car for your business trip, the rental cost can be deducted. Be sure to keep all receipts and documentation to substantiate the expense. If you use your own car for work trips, you have two options for tax deductions. You can either claim the expenses you incur while driving, including the cost of car expenses for business use and personal use, or go with the standard mileage rate set by the IRS. In 2023, the standard mileage rate is 65.5 cents per mile.
In addition to the cost of transportation, you can also deduct tolls and parking fees associated with your business travel. These expenses can add up fast, so be sure to keep track of all relevant receipts and invoices.
Rental Cars and Other Modes of Transportation
The rental fees are generally deductible if you choose to rent a car for your business trip. However, be aware that if you use the rental car for personal purposes, you can only deduct a portion of the rental expenses directly related to your business activities. It’s crucial to keep detailed records of the dates and times when the rental car was used for business purposes.
For other modes of transportation, such as taxis or shuttles, the fares incurred during your business travel are deductible. This includes transportation to and from the airport or train station, as well as transportation between your hotel room and your work location, even if the work location is within the metropolitan area in which you live. Just like with rental cars, keeping receipts and documentation to support your deductions is essential.
Accommodation, Meals, and Incidental Expenses
Another significant aspect of business travel expenses is accommodation, meals, and incidental expenses. Let’s explore how you can maximize your deductions in these categories.
Deducting Lodging Expenses
When it comes to deducting lodging expenses, the key is to ensure that the expenses are reasonable and necessary for your business activities. Generally, you can deduct the cost of hotel stays, Airbnb rentals, or other forms of accommodation while on a business trip.
It’s important to keep detailed records of your lodging expenses. This includes keeping receipts from hotels or rental properties that clearly show the dates, rates, and locations. If you book through online platforms, make sure to print or save electronic confirmations as additional proof.
Meal Deductions
Meals are another significant expense that can be deductible during business travel. However, there are specific rules and limitations imposed by the IRS.
Typically, you can claim a 50% deduction for meal expenses that are directly tied to your business engagements. This includes meals with clients, customers, or colleagues while traveling for business purposes.
The IRS offers a standard meal allowance that is determined by the federal meals and incidental expense per diem rates. These rates are subject to variation based on both the location and the length of your business travel. For tax years 2021 and 2022, due to the COVID-19 pandemic, you can deduct 100% of business-related food and beverages purchased from restaurants. In 2023, you are limited to 50% for meals for non DOT workers.
It’s important to note that you cannot deduct extravagant or lavish meals. The expense must be reasonable considering the circumstances and in line with what is customary in your industry.
Incidental Expenses
In addition to your hotel and meal costs, you can deduct small expenses during your business trip. These include things like tips and fees you give to hotel staff, such as housekeepers, bellhops, and concierge services. Baggage fees and other similar expenses can also be included in this category.
Keep all receipts and documentation related to incidental expenses to ensure that your deductions are valid. This will help substantiate your claims in case of an audit.
Entertainment Expenses
The IRS eliminated the deduction for any expenses related to activities generally considered entertainment, amusement or recreation. However, taxpayers may still deduct business expenses related to food and beverages if certain requirements are met.
Are any Entertainment Expenses deductible?
Unless one of the exceptions under §274(e) applies, no deduction is allowed for expenses for entertainment activities or facilities. Business meals are about the only deductions left and after January 1 2023 these are deducted at 50%.
Recordkeeping and Documentation
Proper recordkeeping and documentation are critical when it comes to maximizing your deductions for business travel expenses. Here are some best practices to follow:
- Keep all receipts, invoices, and other relevant documentation for expenses incurred during your business travel. This includes receipts for transportation, lodging, meals, and incidental expenses.
- Create a system for organizing and storing your receipts and documentation. These can be physical folders or digital files as long as they are easily accessible and well-organized.
- Keep a detailed log of your business activities during your travel. This can include notes of meetings, conferences, or other work-related events.
- Record the dates, locations, and purposes of your business travel. This information will help support your deductions and provide evidence of the business nature of your expenses.
- Keep a different bank account or credit card just for your business expenses. This will make organizing your records easier and help you see what you can deduct.
- Consult with a tax expert or use tax preparation software to ensure you correctly claim your deductions and maximize your tax benefits.
Using these recordkeeping methods, you can ensure you have the right paperwork to back up your deductions and lower the chances of being audited by tax authorities.
Domestic vs. International Business Travel
The rules and regulations for tax deductions differ slightly between domestic and international business travel. Here’s what you need to know:
Deductions for Domestic Travel
The rules for deducting expenses are relatively straightforward for domestic business travel within the United States. As long as your travel meets the criteria of being ordinary, necessary, and directly related to your business activities, you can generally deduct the expenses incurred.
It’s important to note that if you spend more than 50% of your time on business activities during your trip, all of your travel expenses are generally deductible. On the other hand, if you spend less than 50% of your time on business activities, none of your travel expenses are deductible.
Deductions for International Travel
International business travel introduces some additional considerations when it comes to deducting expenses. It is important to understand that the deductibility of expenses for international travel is determined on a proportional basis.
For example, if you spend 40% of your time on business activities during an international trip, you can deduct 40% of your travel expenses. This includes transportation, lodging, meals, and incidental expenses.
In order to support your deductions for international travel, it’s essential to keep detailed records of your business activities and the time spent on business versus personal activities. This will help substantiate the proportionality of your deductions in case of an audit.
Special Considerations
While the guidelines outlined above apply to most business travel scenarios, there are some special considerations to keep in mind:
Conferences and Trade Shows: If you attend conferences or trade shows as part of your business travel, the expenses incurred for registration fees, travel, and lodging are generally deductible. These events must be directly related to your business activities and serve a legitimate business purpose.
Combining Business and Personal Travel: If you combine business and personal activities during your travel, you can only deduct the expenses that are directly related to your business activities. It’s important to keep detailed records and documentation to substantiate your deductions in case of an audit.
Strategic Tips for Deducting Vacation Expenses
Scheduling “Vacation” Days
To optimize your deductions, strategically plan your vacation days in the middle of your business trip. You can ensure that the travel days to and from your destination are considered business-related by sandwiching your personal days between days dedicated to business activities. This approach helps maximize the number of deductible days and minimizes any potential issues with the IRS.
Maintaining Detailed Records
Keeping meticulous records is crucial to substantiate your deductions and avoid any disputes with the IRS. In addition to receipts and confirmations, it’s wise to schedule calendar appointments in advance and maintain a log of your activities. This log should include the purpose of each activity, the individuals involved, and any supporting documentation that can validate the business nature of your trip.
Staying Within Reasonable Limits
In order to avoid raising red flags with the IRS, it’s important to stay within reasonable limits when it comes to your business expenses. If you typically stay at modest hotels during your business trips, suddenly switching to luxury accommodations may draw attention. The IRS expects your expenses to be ordinary and necessary based on industry standards. By staying within these reasonable limits, you can support the legitimacy of your deductions.
What you can’t do is go on vacation and pretend it is a business expense by going to a 2 hour seminar… is not going to cut it. Going out of state to make $500 by spending $3000 for the trip… is not going to cut it. Attempting to justify a business expense on travel and entertainment when your business is not making money… is not going to cut it. If your business is not your primary source of income (you work somewhere getting a W2) and you can not prove 500 hours of working that business… is not going to cut it. Taking all legal deductions can lower your taxes but attempting to write off any expenses that don’t follow the rules will get you in trouble.
FAQ’s
What if I have multiple business locations?
If you have multiple business locations, you can deduct travel expenses incurred between those locations. However, you cannot deduct the expenses of traveling between your home and your regular place of business.
Can I deduct travel expenses for my employees?
Yes, you can deduct travel expenses for your employees if the expenses are ordinary, necessary, and directly related to their job responsibilities. However, remember that there are specific rules and limitations for deducting employee travel expenses, so consult with a tax professional for guidance.
What if my employer reimburses me for travel expenses?
If your employer reimburses you for travel expenses, you generally cannot deduct those expenses on your personal tax return. Furthermore, reimbursements are considered nontaxable income, and you should report them as such.
What are some common travel and entertainment deductions for businesses?
Some common travel and entertainment deductions for businesses include transportation expenses, lodging expenses, meals and entertainment expenses, and business travel expenses. It’s important to keep detailed records and receipts to support these deductions and ensure compliance with tax regulations.
What documentation is required to support a deduction for travel and entertainment expenses?
To support a deduction for travel and entertainment expenses, you will typically need documentation such as receipts, invoices, and travel itineraries. It is important to keep detailed records and document the business purpose of each expense, as well as the date, location, and individuals involved.
Get Expert Help with Your Taxes
Navigating the intricacies of tax deductions for business travel expenses in November can be challenging. That’s why it’s often beneficial to seek expert help from a tax professional or use professional tax preparation software. These resources can walk you through the process, ensure you’re getting all the deductions you can, and help you file your taxes correctly and quickly. With the latest corporate tax law changes, it is crucial to stay updated on the regulations. By utilizing research and practice tools from Bloomberg Tax, you can plan a corporate tax strategy that reduces risk and complies with the tax law. These tools provide in-depth research and analysis, as well as time-saving practice aids, to help you make informed decisions.
When you get the most deductions for your business travel expenses, you owe less in taxes and keep more money for yourself. Remember to keep good records, talk to a tax professional like Akron Income Tax Co, and stay updated on the latest tax rules. With the right knowledge and guidance, you can make the most of your business travel deductions and make your tax return work better for you.
Check out our Tax Deduction Story for a bigger refund