As a self-employed business owner, you can deduct your business-related travel, meal and entertainment expenses to an extent. But often times, it’s not the employer, but the employee, who incurs these expenses and is reimbursed for them by the employer. This raises the question, “Are employee reimbursements deductible?” Learn about how to claim qualifying employee reimbursements for travel, meals and entertainment as deductible business expenses.
When Are Employee Reimbursements Deductible?
In order to deduct reimbursements or allowances you may offer your employees for travel, meal and entertainment expenses, you must first ensure that the expenses incurred for the purposes of your trade or business and are deemed to be ordinary and necessary.
You should also have in place a reimbursement or allowance arrangement in place. Provided that these expenses can be substantiated, you can deduct them to an extent. However, the value of the deduction depends on whether your accounting plan is classified as an accountable or non-accountable plan.
Accountable plans require your employees have paid or incurred eligible expenses while performing services as your employee, adequately accounted for these expenses (through documentation) and returned any excess reimbursement or allowances within a reasonable period of time. If you choose instead to make advance payments to your employees to cover the expenses, you must ensure that the advance was reasonably calculated and disbursed within a reasonable time frame.
If the above criteria are met, you may deduct the expenses under the category of the expense paid, whether for travel, meals or entertainment. The reimbursements, allowances or advance payments may not be deducted under the accountable plan otherwise, but may still be eligible for deduction through the nonaccountable plan.
Under a nonaccountable plan, any legitimate travel, meal and entertainment expenses paid are deductible on your income tax return as compensation or wages. That too, must meet the employee pay deductibility test detailed in Chapter 2 of IRS Publication 535. The payments are therefore subject to income tax withholding, Social Security, Medicare and unemployment taxes.
How Do You Deduct Employee Reimbursement Expenses?
If you qualify for an employee reimbursement deduction under the accountable plan, the deduction for meals and entertainment is generally subject to a 50 percent limit. Sole proprietors or single-member LLCs can claim the deductible portion of meal and entertainment reimbursements on Form 1040. If, on the other hand, you are filing a return for a corporation, you can take the deduction on Form 1120.
Under a nonaccountable plan, deduct the amount paid as wages and include it on the employee’s Form W-2. If a single payment is made to an employee, including both wages and an expense reimbursement, be sure to specify the amount of the reimbursement.
To find out about which other employee reimbursement expenses can be treated as deductible business expenses, see IRS Publication 535.
MileIQ’s blog does not constitute professional tax advice. You should contact your own tax professional to discuss your situation.