Cloud Accounting & Finance

Managing Expenses #1 of 5: IRS Rules for Expense Reporting

IRS Rules for Expense Reporting

This article is part 1 of a 5-part series on managing employee expenses. Tracking and managing employee expenses is a critical part of any business, affecting cash flow as well as taxes. This series will help your business stay on top of your expenses to mitigate cash burn, make operational changes, and properly prepare for tax season. 

Related: Get the full guide to managing expenses here

In Part 1, we’re outlining the IRS rules for expense reporting. The US federal government has laid out guidelines for what qualifies as a business expense, what constitutes a complete record, how to keep records, and what can be deducted on your business’s taxes. 

For the IRS’ rules in-depth, reference the IRS Publication 535. Just note that due to the volume of information, we recommend consulting with a certified accounting and finance professional. 

How the IRS Defines a Business Expense

According to IRS Publication 535, a deductible expense is a business expense that is both ordinary and necessary. These are defined as:

  • Ordinary: A common and accepted expense in your industry
  • Necessary: A helpful and appropriate expense for your trade or business

Reimbursing employees is discretional. However, the benefit to reimbursing employees is that you can generally deduct all or part of the expense if it is reimbursed to the employee. 

General IRS Employee Expense Rules

Some of the most important rules for employee expenses to take note of include: 

  • Expenses over $75 should always have a receipt.
  • Never reimburse an employee for a ticket, summons, or other expense incurred as a result of illegal activity.
  • To be considered a complete record, employees need to provide contextual information about the expense such as amount, date, merchant, and what it was for. 
  • Expenses should be submitted within 60 days of the expenses being incurred. 

Look to expense reporting software to help you set up real-time expense reports and automated rules for expense management. You’ll keep your expense policy compliant with minimal manual oversight from your finance and accounting teams. 

Deducting Mileage Expenses

The standard IRS mileage rate is calculated based on the average cost of owning and operating a vehicle compared to the average number of miles driven and is recalculated each year. Each year, the IRS issues a new IRS mileage reimbursement rate — here are 3 factors that go into determining the new rates. 

A best practice is to use the IRS standard mileage rate for auto expense reimbursement, since the cost of gas, repairs, and insurance has already been taken into account. However, the company should still reimburse employees for travel expenses like tolls and parking. 

If you decide to use an amount other than the IRS standard rate, know that there may be tax deduction consequences or penalties. It’s best to consult a tax professional before implementing a different reimbursement rate. 

While the IRS does not share their exact calculations, AAA completes annual research and surveys to estimate the cost per mile of owning and operating a vehicle. Using those numbers, you can assume the breakdown of the mileage rate calculation probably looks something like this: 

Breakdown of mileage rate calculation, based on AAA’s estimates on the cost per mile of owning and operating a vehicle.

The AAA breakdown includes: 

  • 41.9% towards depreciation
  • 17.8% towards insurance
  • 15.3% towards gas
  • 7.9% towards license and registration
  • 7.9% towards finance charges
  • 7.8% towards maintenance
  • 1.2% towards tires

Check out our guide for more information on managing your business’s expenses.

Please note: Abacus does not provide accounting advice. Speak to an accountant to determine the particular needs of your business. 

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