Follow strict record-keeping rules
Year in and year out, taxpayers claiming substantial deductions for travel and entertainment (T&E) expenses are prime audit targets of the IRS. This year should be no exception. But there is a way you can withstand any challenges on your return: Keep accurate records as required by the tax law. Here is a summary of the key tax rules for T&E expenses.
Part 1: Business Travel Expenses
If you travel away from home on business, you can deduct your transportation costs (e.g., airfare), your meals and lodging while you’re away on business and related incidental expenses such as cab fare and tips. The deduction for meals is limited to 50% of the cost, while other travel expenses are fully deductible. However, it is important to keep records of your business travel expenses by contemporaneous diary or some other means. The records must show:
- The dates you left and returned and the number of days away on business.
- The destination of the business travel.
- The reason for the business trip.
- The cost of each travel expense.
In addition, keep receipts of all lodging expenses and other business-related expenses over $75. Other special rules may apply to deductions for vehicles used for business driving, including deduction limits on so-called luxury cars. Note: In lieu of deducting actual business-related vehicle expenses for 2014, you may qualify for a deduction using a flat rate of 56 cents per business mile (plus business-related tolls and parking fees).
Part 2: Business Entertainment Expenses
Generally speaking, you can deduct qualified entertainment expenses that are either directly related to your business or associated with your business. The deduction is equal to 50% of the cost.
Directly related entertainment: Entertainment is considered “directly related” to your business if you actually discuss business during the entertainment and you have more than a general expectation of deriving a business benefit from the meeting. In other words, the entertainment can’t be just for goodwill. Furthermore, the entertainment must take place in an atmosphere conducive to discussing business.
Associated-with entertainment: Entertainment is considered “associated with” your business if it precedes or follows a substantial business discussion. It’s not necessary to talk about business matters during the entertainment. If the client comes from out of town, the business discussion can take place the day before or the day after the entertainment. Note that the cost of entertainment that is “lavish or extravagant” under the circumstances is not deductible.
Similar to business travel expenses, you must keep detailed records of your entertainment expenses. Generally, it is advisable to use a contemporaneous diary or log. The records for business entertainment must show:
- The date, location and nature of the entertainment.
- The amount spent on the entertainment.
- The business reason for the entertainment or the benefit you expect to derive.
- The person or people entertained and their business relationship to you.
- The details of the substantial business discussion (e.g., date, duration and nature of the meeting) for any associated-with entertainment.
Finally, remember to keep receipts or credit card statements for expenditures of $75 or more. This limit has not been raised in years.
It is critical to observe the strict rules required by the IRS. With assistance from your professional tax advisers, you can assemble records that should be able to stand up to scrutiny.