If you are an independent contractor you can deduct expenses for travel, meals, and entertainment. These expenses are deducted on Schedule C. They might seem straight forward, but the IRS has a lot rules for these expenses. Here is a chart from the IRS website that lists what expenses are deductible: Meals and Entertainment Deductions
Line 24a on Schedule C is for hotel and transportation expenses. To deduct hotel and transportation expenses, they must be connected with overnight travel for business away from your “tax home”. The IRS considers your “tax home” to be your main place of business. This is not where you actually live. A person’s tax home is the city or general vicinity where his or her primary place of business or work is located. IRS does not define exactly how far from your tax home you must go to deduct the travel. Every tax payer has different circumstances. You should review your situation with a CPA if you are unsure.
If the family member is an employee and could deduct the expenses themselves, you can deduct their travel. You are not allowed to deduct business travel expenses for family members that are not employees. If your wife or child comes along on the trip just for fun, you can not deduct their expenses.
You can deduct travel expense to places outside of North America under some circumstances. The seminar, convention or other meeting outside of North America must be directly related to your business. It must also be reasonable for the convention to be outside the North American area. IRS gets to decide what is “reasonable”. If you do plan to deduct travel out of the United States, make sure the business reason is well documented. Travel to an overseas factory or supplier would be deductible. They don’t want you deducting your vacations.
You are allowed a $5.00 per day deduction for incidental expenses. The $5.00 is supposed to be for giving tips to people who help you with luggage or tips for hotel maids. This deduction is subject to one rule: you cannot use it on any day that you use the standard meal allowance. I’ll explain the standard meal allowance later.
Keeping track of all your receipts for any travel is very important. You should also keep a record of the days you travel and match the receipts to your travel record. If you use a credit card, keep your statements in a folder or keep an electronic copy. Remember they can audit you up to three years after you file your return.
In most cases you are allowed to deduct 50% of your business meals and entertainment expenses. However there are some rules for deducting meals and entertainment. IRS has two situations that allow you to deduct meal expense:
You can deduct meals and entertainment expenses if they are both ordinary and necessary and meet one of the following tests:
IRS does not usually consider the main purpose of hunting or fishing trips to be business. They also don’t consider yacht trips or pleasure boat trips to have business as the main purpose. Be careful trying to deduct these kinds of trips. If you are conducting a trip like this for business, conduct the business first and divide the expense between the time spent on business and time spent on hunting or fishing. Only deduct the expense for the business portion. An expense for using an entertainment facility is also generally not deductible.
Clear business Setting. If the entertainment takes place in a business setting and is for your work, it is considered directly related to business. Here are some examples of a clear business setting:
Some expenses that are not deductible:
These situations are not considered directly related to business because there are distractions that prevent you from actively conducting business.
To pass the associated test you must prove the entertainment is:
To be associated with the active conduct of your trade or business you must show that you had a clear business purpose for the expense. The purpose may be to get new business or to encourage the continuation of an existing business relationship.
Deciding whether a business discussion is substantial depends on the facts of each case. A business discussion won’t be considered substantial if you can’t show that you actively engaged in the discussion, meeting, or negotiation to get income or some other specific business benefit.
You can figure your deduction using the actual cost or the standard meal allowance. Using the actual cost method is straight forward. You add up what you actually paid for the meals and then deduct 50% of it. If you spend $100 on meals, then your deduction is $50. Just remember to keep accurate records, including receipts for all the meals.
Using the standard meal allowance allows you to use a set amount for your your daily meals. If you use the standard meal allowance, you don’t need to keep your receipts for all your meals. You just need to prove that you were traveling during the time you want to use the deduction. IRS publishes the amount of the standard meal allowance each year. The rates can be found at https://www.gsa.gov/travel/plan-book/per-diem-rates. $5 is included in the standard meal allowance rate for incidental expenses. The allowance rate changes depending on the area you are traveling in so make sure you use the right one.
Most people think that deducting meals and entertainment is a simple process. They are not aware of all the rules the IRS has for these expenses. I have had some clients get audited and have their meals and entertainment deduction taken away. The most important thing to remember is to only deduct 50% of the expense and to keep accurate records. If you get audited on this, the auditor will go through your receipts and bank statements to make sure you didn’t cheat. Here is a link to IRS Publication 463 that has the rules for deducting travel, meals, and entertainment. As always, if you have questions, talk to a CPA.