The IRS takes a strict position on travel and entertainment (T&E) deductions, and there’s a good chance an agent will take a hard look at those items if you claim them on your tax return and you’re audited.
The challenge will be more focused on whether you kept the proper records than whether or not the expenses were appropriate for the business. And with the strict position of the IRS, miss one element and the deduction is most likely to be disallowed.
The rules for travel recordkeeping are slightly different from those for entertainment. For travel expenses, you’ll need records to support the:
- Dates you left and returned for each trip and the number of days spent on business,
- Business purpose or benefit gained or expected,
- Destination or area of travel (typically the name of the city or town), and
- Cost of each separate expense for travel, lodging and meals (though incidental expenses may be totaled in reasonable categories such as “taxis” and “fees and tips”).
You’ll need to go into more detail for entertainment expenses, and you must note the cost of each separate expense, though incidental expenses (such as taxis or public transportation) may be totaled on a daily basis. You’ll also have to record the date of the event, and the name and address (or location) of the entertainment. In addition, you’ll need to describe the type of entertainment if it’s not readily apparent. For example, was it a dinner, a show or a sporting event?
In addition to all of that, you must also write down the business purpose or benefit gained or expected from the entertainment. This means describing the nature of the business discussion or activity. If the entertainment was directly before or after a business discussion, you’ll have to express the date, place, nature and duration of the discussion, as well as the identities of the persons who took part in both the discussion and the entertainment.
Last, you need to record your relationship to the persons entertained. Include their occupations or other information (such as names, titles or other designations) that show their business relationships with you.
According to the IRS, you don’t need to record the elements of every expense on a contemporaneous basis, and maintaining a weekly log should be sufficient. But the longer the delay, the more dubious the log’s credibility becomes.
In order to support your expenses, you generally need receipts, bills, canceled checks and the like. However, there are three exceptions:
- You use the per diem allowance method for meal and/or lodging expenses.
- You incur transportation expenses for which a receipt isn’t readily available (such as taxis, buses or light rail).
- The expense, other than for lodging, is less than $75.
The per diem method provides for a fixed allowance based on the area to which you’re traveling. For example, Boston has one rate and Springfield, Massachusetts, has another. You’ll still need to document the other elements of the expense, even if you don’t need receipts for this method. There are a number of other rules and restrictions, and the allowances may not fully cover your expenses.
Saving receipts for expenses less than $75 may be helpful in providing additional documentation for the date, place and type of expense. Even if they’re not required for tax purposes, employers should consider requiring receipts for expense reports..
The receipt should show the date, place and essential character of the expense. In addition, for a hotel receipt, you’ll need a breakdown of charges such as lodging, meals, phone calls and other services. For a restaurant receipt, you’ll need the date, place, amount and number of people served.
A canceled check or line on a credit card statement, by itself, is insufficient documentation. You’ll need a bill, receipt or something similar from the provider. And here’s a tip: consider making copies of receipts for your files because many receipts are now printed on heat-sensitive paper that can fade quickly.
If you plan to use an app for your smartphone or tablet to record your T&E expenses, make sure any app you download or approve for employees captures all of the required IRS elements and you’ve got a backup system in place. Some apps can even integrate with a company’s accounting software.
Although many taxpayers are diligent about recording T&E expenses, and sometimes even describing the people involved, they fall short on establishing a business purpose. This element is just as critical as the others. The amount of detail here depends on the situation, and taking an important customer to dinner after an afternoon meeting discussing and taking product orders may not need as much detail as entertaining a prospective client and discussing only theoretical sales. Remember, you won’t be penalized for providing too much information!
Also, consider that the type of entertainment can be important. It’s not unusual to discuss business during dinner when it’s just you and a customer, but that’s not true for a sporting event, particularly when you’re taking spouses along. Then you have to show the discussion took place before or after the event. And, for an expense to be classified as business entertainment, an employee must be present. So, say you give two tickets to a basketball game to one of your good clients and it’s just a gift, subject to those rules, not a T&E expense.
What about mixing business with pleasure on a trip? It’s possible, but you want to be especially careful with your recordkeeping. If the primary reason for the trip is business, you can deduct travel costs to and from the business location and expenses while on business there. But you can’t deduct nonbusiness expenses such as transportation and meals on a side trip to visit friends or family.
You also can’t deduct expenses associated with your spouse on the trip unless:
- He or she is an employee of the business, and
- There’s a clearly demonstrable business purpose for his or her presence.
Proper and Reasonable
If you’re an employer, you’ve got to ensure that you’re receiving proper, reasonable documentation from employees. And if you’re the employee, you must provide your employer with an expense report that includes the details discussed above.