The IRS recently updated its procedures for taxpayers deducting travel expenses related to business and investment income, including sole proprietors. Some of the per diem rates are a little higher than last year, which might help frugal business owners who need to travel away from home for business purposes.
Generally, business owners can deduct the cost of traveling away from home on a business trip. This includes the cost of transportation, lodging, meals and incidental expenses. Meals and entertainment expenses are subject to a 50 percent limitation, meaning you can only deduct half the costs of these items. Some (but not all) of the same deductions are allowed for travel related to investments.
Following are some tips about deducting business travel, including updates from the new revenue procedure. Also included are some points about deducting the cost of travel in pursuit of income, for example to check out an investment opportunity.
- If you do business in more than one location, you need to declare one of them to be your “tax home” in order to deduct travel between them. When you travel away from your tax home and stay overnight, you can take the deduction for all your expenses. If you don’t stay overnight, only your travel costs can be deducted, but not your meals.
- If you combine business and pleasure in the same trip, you can only deduct the portion of your travel expenses attributable to business. If you take your spouse or life-partner, you can deduct only the cost of your own travel and meals—unless your spouse/partner also works regularly in your business and you can demonstrate a business purpose for him/her to accompany you. If you take the kids, too, the IRS considers it a family vacation, and you can only deduct costs that were actually associated with the business purpose of your trip.
- If you are traveling to explore a specific investment opportunity and you make the investment, your travel expenses are not deductible; they are added to the basis of the investment. However, if you made the trip intending to acquire a specific business or property but were unsuccessful in making the acquisition, your travel expenses are deductible as a loss. No deduction is allowed for travel in a general investigation or search for new business or investment opportunities.
- You can deduct travel costs related to setting up a new business as long as the trade or business you are in is the same as you engaged in previously, as someone else’s employee. For example, if you work for a management consulting firm and decide to go out on your own, travel costs incurred while setting up your new business are deductible. However, if you’ve been out of work for more than a year, the IRS considers this “seeking new employment” rather than continuation of your old trade or business, and thus the costs are not deductible. (For other tips about deducting business start-up costs, click here.)
Lodging and meal costs are deductible to the extent they are “ordinary and necessary,” but the deduction is not allowed for the portion of these costs considered “lavish or extravagant.” The IRS says travel expenses are not lavish or extravagant if they are “reasonable under the circumstances” but doesn’t set a limit. “Expenses will not be disallowed just because they are more than a fixed dollar amount or take place at deluxe restaurants, hotels, nightclubs, or resorts,” according to a notice on the IRS Web site. Instead, the determination is based on the standard in the industry or profession for this kind of travel.
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- For meals, sole proprietors have two choices: to keep receipts and deduct 50 percent of the actual cost, or use the per diem rates allowed for federal government employees. The standard per diem rate for meals and incidental expenses (M&IE) is $39 per day for most locations in the continental United States, with higher rates ranging up to $64 per day for areas designated as “high-cost” locations. For 2008, the IRS added Jackson/Pinedale, Wyo., to the list of high-cost areas and removed Palm Springs, Calif.; Yosemite National Park, Calif.; Conway, N.H.; Virginia Beach, Va.; and Lake Geneva, Wis. from the list. The full list of high-cost locations, and their per diem rates, is available in IRS Publication 1542, and an interactive map is available at www.gsa.gov to determine the exact per diem rate allowable for each location.
- The standard meal allowance also can be used to figure your meal expenses when you travel in connection with investment and other income-producing property, even if the travel is not in connection with a trade or business.
- The M&IE rate covers both meals and incidental expenses, such as tips, mailing costs and telephone charges. On days when you don’t claim a per diem amount for meals, business owners can deduct $3 for incidentals without keeping track of them. However, if your incidentals amount to more than $3 and you keep records of them, you can deduct the full amount.
- Expenses for lodging must be substantiated, so keep receipts. Sole proprietors are not allowed to use the federal per diem rate for lodging.
Limits on the deductibility of “luxury water travel,” such as a cruise ship or ocean liner, are spelled out separately in IRS Publication 463. The IRS sets a daily limit on the amount that can be deducted, based on the time of year that the cruise takes place. If meal and entertainment expenses are stated separately, they are subject to the 50 percent limitation. However, the daily limit does not apply to conventions, seminars or meetings onboard a cruise ship; instead, the maximum deduction allowed is $2,000.
Conventions, seminars and meetings
Business owners can deduct the cost of attending conventions, seminars or meetings in the “North American area” (see Publication 463) when they can show that attendance benefits the business. For conventions held outside North America, business owners can deduct the cost if attendance is directly related to the trade or business and if it was “reasonable” to hold the meeting outside of North America.
Conventions that are attended for “investment purposes” but not in carrying on a trade or business are not deductible.
Travel outside the United States
Generally, if you travel outside the United States for business, you must allocate your travel expenses between personal costs that can’t be deducted and business expenditures that are deductible. These rules apply to travel to U.S. possession territories, such as the Virgin Islands and Puerto Rico; only travel to the 50 states and the District of Columbia is considered domestic. However, if your foreign travel encompasses less than seven consecutive days, the trip is considered all for business even if you combine business and non-business activities.
The U.S. State Department maintains a separate set of per diem rates used for travel outside the United States, updated monthly (click here).