Planning Ahead Helps Prevent Problems
Travel is an essential part of doing business for many organizations – there are countless advantages to having your employees meet with clients face-to-face. But the tax rules surrounding business travel can be quite complex, and if your company doesn’t pay careful attention it can lead to mistakes that result in trouble down the road.
Proper accounting of business expenses offers the benefits of being able to fully deduct the costs of the employee’s travels without any impact on the employee’s taxable wages and without necessitating withholding FICA or payroll taxes. Even the employee’s meals are 50 percent deductible. But if you fail to do things according to the established laws, you may face the additional burden of adding any reimbursement provided to the employee to their taxable wages, making them subject to FICA and payroll withholding.
What Can Be Deducted?
As an employer, when you send your employee on business travel the cost of any travel expenses and lodging are able to be deducted as ordinary and necessary business expenses as long as they are not considered to be extravagant or lavish.
As long as these expenses are deducted by the company, the employee does not need to report them in their annual salary as working fringe benefits, and any monies provided to the employee under an accountable plan are not subject to FICA or income tax withholding as long as they are provided under what is called an “accountable plan” for which the employee has to provide an account of their expenses and reimburse any unused portion.
When these types of reimbursements are provided to an employee under a “non-accountable plan”, they are fully taxable to the employee. This means that in order for the expenses to be deductible is for the employee cannot take the standard deduction, and instead has to a them as miscellaneous itemized deductions on their personal income tax form. This disadvantages the employee in a number of ways, including the fact that itemized deductions are subject to a non-deductible AGI threshold of two percent, which can effectively eliminate their option of deducting all or some of the expense.
Travel Away From Home and the Exception to the Rule
In order for lodging and meals to be taken as a deduction, there is a requirement that the travel necessitates spending at least one night away from the employee’s “tax home”, making sleep and rest a requisite part of the trip. The travel also has to have a specific primary purpose that is in keeping with ordinary and necessary business functions.
The one exception to this rule that allows lodging expenses to be deducted even if the travel is near to the employee’s home is when the only way for the employee to fully participate in or be available for a business meeting, conference, training activity or other business function is to stay overnight. This safe harbor exception has limitations, including that the expense cannot recur more often than once per quarter and not more than five calendar days.
As is true with other travel expenses and lodging, the accommodations cannot be considered extravagant or lavish beyond the purpose of the meeting, and there are rules against any personal pleasure, benefit or recreation being provided. The stringent requirements of the safe harbor rule can often be offset by what are referred to as “facts and circumstances”, most notably that the expense is a requirement or bona fide condition imposed by the employee’s employer.
The rationale behind the IRS rules about travel expenses is a simple one: if an employee is already paying for their own living expenses at their regular home, they should not be required to provide for duplicate living expenses as a result of their employment requiring that they travel.
This makes the idea of a tax home more clear, and explains the limitations imposed on travel expenses taken when the employee is close to their tax home, which is defined as a regular or principal place of business. For employees who do not have a principal place of business, then the place where they reside is considered their tax home.
For those individuals whose career requires constant travel and who do not have a permanent place where they reside, there are no duplicate living expenses and therefore they are not able to take deductions for lodging and meals as travel expenses.
For many employees, travel expenses are incurred over an extended period of time. This has necessitated that the IRS create a distinction between being temporarily away from home and when a move is actually permanent and travel expenses are no longer applicable or deductible.
The agency has made the termination that when an employee is required to be away from home and in a single location for a year or less, it is considered a temporary situation. When the initial plan for that temporary location changes and the time that the employee is expected to be away from home changes to a period of more than a year, then the revised treatment of expenses takes effect when the expectation changed.
Here is more information from the IRS on Business Travel Expenses.
Making sure that you are handling your business’ travel expenses correctly takes more than guesswork: for help with this complex task, call our office at (804) 723-1050 to set up an appointment to review your process.