Chapter 9
Deductions: Employee and
Self-Employed-Related
Expenses
Individual Income Taxes
© 2016 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
1
The Big Picture (slide 1 of 2)
• Morgan, a recent college graduate who majored in
finance, has accepted a job with Kite Corporation.
– The job is in sales and will require travel and some
entertainment (i.e., business lunches).
• She will be based in a major metropolitan area in
another state.
– Kite has no available space in the locale, so she will have to
maintain her own work facility.
– In addition to her salary, Morgan will receive a travel
allowance.
• However, Kite has made it clear that the allowance will not cover
all of her travel expenses.
2
The Big Picture (slide 2 of 2)
• Morgan is delighted with the new job since it
will enable her to maintain a flexible work
schedule.
– Furthermore, working out of her own apartment
avoids a time-consuming and costly commute.
• What are some of the income tax problems
presented by this situation?
– Read the chapter and formulate your response.
3
Employee vs. Self-Employed
(slide 1 of 2)
• Business expenses for self-employed persons
are deductible for AGI
– Reported on Schedule C
• Unreimbursed business expenses for
employees are generally deductible from AGI
subject to 2% of AGI floor
– Reported on Form 2106 (Employee Business
Expenses) and Schedule A (Itemized Deductions)
4
Employee vs. Self-Employed
(slide 2 of 2)
• Person is classified as an employee if:
– Subject to will and control of another with respect
to what shall be done and how it shall be done
– Another furnishes tools or the place of work
– Income based on time spent rather than task
performed
5
Employee vs. Self-Employed
(slide 2 of 2)
• Person is classified as an employee if:
– Subject to will and control of another with respect
to what shall be done and how it shall be done
– Another furnishes tools or the place of work
– Income based on time spent rather than task
performed
6
Employee Expenses
• Fall into one of the following categories:
–
–
–
–
–
–
Transportation
Travel
Moving
Education
Entertainment
Other
7
Transportation Expenses
(slide 1 of 2)
• Transportation expense defined
– Very limited, only from job site to job site and
commuting to/from temporary work place
– Commuting from home to work and back is
nondeductible
• Exceptions:
– Additional costs incurred to transport heavy tools
– Employees with more than one job
8
Transportation Expenses
(slide 2 of 2)
• Amount deductible
– Actual expenses
• Must keep adequate records of all expenses and
depreciation is limited, or
– Automatic mileage method
• 57.5 cents per mile for business miles for 2015
– Adjustment to basis of auto is required for depreciation
considered allowed
• Plus parking, tolls, etc.
• Adequate documentation of mileage required
9
Transportation Expenses
(slide 2 of 2)
• Amount deductible
– Actual expenses
• Must keep adequate records of all expenses and
depreciation is limited, or
– Automatic mileage method
• 57.5 cents per mile for business miles for 2015
– Adjustment to basis of auto is required for depreciation
considered allowed
• Plus parking, tolls, etc.
• Adequate documentation of mileage required
10
The Big Picture - Example 9
Commuting Expense
• Return to the facts of The Big Picture on p. 9-1.
• Because Morgan will have an office in her
home, the apartment will be her principal place
of business.
– Thus, any transportation from her home to
business sites is not be a commuting expense
11
The Big Picture - Example 11
Automatic Mileage Method
• Return to the facts of The Big Picture on p. 9-1.
• During Morgan’s senior year in college, her parents
gave her one of the family cars—a 2009 Chevrolet
Impala.
– Morgan has no idea as to the car’s original cost or the
odometer reading at the time the car was registered in her
name.
– She has, however, kept track of the miles driven for
business since she accepted her new job.
• Morgan should use the automatic mileage method in
claiming business use of the car.
12
Travel Expenses
(slide 1 of 2)
• Travel expense defined
– Expenses while “away from tax home” overnight
on business
– Includes transportation, lodging, meals, and
miscellaneous expenses
13
Travel Expenses
(slide 2 of 2)
• “Away from home” requirement
– Need not be a 24-hour period but must be longer
than ordinary work day and taxpayer will need to
rest during release time
– Being “away” should be a temporary situation (not
in excess of 1 year)
– “Tax Home” generally means business location,
post, or station of the taxpayer
– Some exceptions are allowed under new
Regulations
14
Restrictions on Travel Expenses
(slide 1 of 2)
• Convention travel expenses
– No deduction for travel unless directly related to
taxpayer’s trade or business
• Example: Doctor attending out-of-town seminar on
estate planning would not have deductible travel
expenses
– Restrictions apply to the deductibility of travel
expenses of the taxpayer’s spouse or dependent
• Generally, accompaniment by the spouse or dependent
must serve a bona fide business purpose, and
• The expenses must be otherwise deductible
15
Restrictions on Travel Expenses
(slide 2 of 2)
• Education travel expenses
– Travel as a form of education is not deductible
• Example: Spanish language professor traveling to Spain
to work on the language would not have deductible
travel expenses
• Example: Spanish history professor traveling to Spain to
study historical documents available only in Spanish
museums would have deductible travel expenses
16
Combined Business/Pleasure Travel
(slide 1 of 4)
• Only actual expenses for business are
deductible
– Meals, lodging and other expenses must be
allocated between business and personal days
• Deductibility of transportation costs depends
on whether the trip is domestic or foreign
17
Combined Business/Pleasure Travel
(slide 2 of 4)
• For domestic travel
– If primary purpose of trip is business,
transportation is deductible in full
– If primary purpose is pleasure, no deduction for
transportation allowed, but other expenses (e.g.,
lodging) associated with business days are
deductible
18
Combined Business/Pleasure Travel
(slide 3 of 4)
• For foreign travel
– Transportation expenses must be allocated
between business and personal unless:
• Trip is 7 days or less,
• Less than 25% of time was for personal purposes, or
• Taxpayer had no substantial control over arrangements
for the trip
19
Combined Business/Pleasure Travel
(slide 4 of 4)
• Travel days are considered business days
• Weekends, legal holidays and intervening days
are business days if both the preceding and
succeeding days are business days
• If trip is primarily for pleasure, no
transportation expenses are deductible
20
Moving Expenses
• Deductible for moves in connection with the
commencement of work at a new principal
place of work
• Two tests must be met for moving expenses to
be deductible
– Distance test
– Time test
21
Moving Expenses - Distance Test
• Distance from old home to new job must be at
least 50 miles farther than from old home to
old job
• New home location not relevant for decision
22
Example of Distance Test
• Gail lived 20 miles
from her old job
• Gail’s new job is 75
miles from her old
home
• Gail meets the
distance test
20 mi.
Old
Job
Old
Residence
75 mi.
New
Job
23
Moving Expenses - Time Test
(slide 1 of 2)
• Taxpayer must be full-time employee for 39
weeks in the 12-month period following the
move, or
• Self-employed must work in new location for
78 weeks during the next two years following
the move
– 39 of the weeks must be in the first 12 months
• Test waived if die, disabled, discharged, or
transferred
24
Moving Expenses - Time Test
(slide 2 of 2)
• If time test not met during taxable year, two
alternatives:
– Take the deduction in year moved. If test is not
met in following year, either:
• Include the amount deducted in gross income in the
following year, or
• File amended return for year of move
– Alternatively, wait until time test is met and then
file amended return for year of move
25
Deductible Moving Expenses
• ‘‘Qualified’’ moving expenses include
reasonable expenses of:
– Moving household goods and personal effects to
new location
– Expenses of travel for taxpayer and family to new
location
• Lodging
• Actual auto costs (not depreciation) or mileage rate of
$.23 per mile for each car in 2015
– Meals are not deductible as moving expense
26
Tax Treatment of
Moving Expenses
• Unreimbursed moving expenses are deductible
for AGI
• Reimbursement or payment by employer:
– For qualified moving expenses, amount is
excluded from gross income, but no deduction for
related expenses
– For nonqualified moving expenses, amount is
included in gross income and no deduction is
allowed
27
The Big Picture - Example 27
Moving Expenses
• Return to the facts of The Big Picture on p. 9-1.
• Even though this is her first job, Morgan will
be entitled to a moving expense deduction.
– This presumes that she is not reimbursed by Kite
Corporation for these expenses.
– The mileage on her car also is allowed.
• Her deduction is for AGI and can be claimed
even if she chooses the standard deduction
option.
28
Education Expenses
(slide 1 of 3)
• Education expenses of an employee are
deductible if they are incurred:
– To maintain or improve existing skills, or
– To meet express requirements of the employer or
requirements imposed by law to retain
employment status
29
Education Expenses
(slide 2 of 3)
• Education expenses of an employee are not
deductible if they are incurred:
– To meet minimum educational standards for
existing job, or
– To qualify taxpayer for new trade or business
30
Education Expenses
(slide 3 of 3)
• Education expenses include:
–
–
–
–
–
Tuition
Books
Supplies
Transportation
Travel (including lodging and 50% meals)
31
Deduction For Qualified Tuition and
Related Expenses (slide 1 of 3)
• A deduction is allowed for AGI for qualified
tuition and related expenses involving higher
education (i.e., postsecondary)
32
Deduction For Qualified Tuition and
Related Expenses (slide 2 of 3)
• The maximum deduction depends on filing
status and Modified AGI
33
Deduction For Qualified Tuition and
Related Expenses (slide 3 of 3)
• Qualified tuition and related expenses include
whatever is required for enrollment
– Usually, student activity fees, books, room and
board are not included
• Expenses need not be work related
• Deduction is not available for married persons
filing separately
34
The Big Picture - Example 30
Education Expenses
• Return to the facts of The Big Picture on p. 9-1.
• After starting her new job, Morgan enrolls in
the night program of a local law school.
– Although Morgan does not plan to practice law,
she feels that a law degree would advance her
career.
• Except for the tuition she pays (see the
discussion of § 222), none of her expenses
relating to the education will be deductible.
35
Entertainment Expenses
(slide 1 of 3)
• Deductions are very restricted due to abuse
possibilities
– Deductible amount allowed:
• 50% of meals and entertainment costs including related
taxes, tips, cover charges, parking fees, and room rental
fees
• 100% of transportation costs
– Amounts cannot be lavish or extravagant
– In certain situations, the 50% cutback for meals is
eased for certain, very limited, types of employees
36
Entertainment Expenses
(slide 2 of 3)
• The 50% cutback rule has a number of
exceptions, such as:
– Situations where full value of meals or
entertainment is included in income
– Meals and entertainment are provided in a
subsidized eating facility or where the de minimis
fringe benefit rule is met
– Employer-paid recreational activities for
employees
• e.g., the annual Christmas party or spring picnic
37
Entertainment Expenses
(slide 3 of 3)
• Entertainment expenses are classified as either:
– Directly related to business
• Actual business meeting or discussion occurs during
meal or entertainment
– Associated with business
• Meal or entertainment that directly precedes or follows
business meeting or discussion
38
Restrictions on Entertainment
Expenses (slide 1 of 3)
• Club dues
– Generally not deductible
• Exception: Clubs formed for public service and
community volunteerism (e.g., Kiwanis, Rotary)
– Business entertainment expenses incurred at club
are still deductible (50%)
39
Restrictions on Entertainment
Expenses (slide 2 of 3)
• Ticket purchases for entertainment
– Amounts paid in excess of face value of ticket are
not deductible
– Limitation on deductibility of luxury skybox
expenditures
40
Restrictions on Entertainment
Expenses (slide 3 of 3)
• Business gifts
– Business gifts of tangible personalty with a value
of $25 or less per person per year are deductible
• Incidental costs (e.g., gift-wrapping) are not included in
the cost of the gift in applying the limit
– If the value is $4 or less (e.g., pen with company
name) then not subject to $25 limit
• Gifts to employers or superiors are not
deductible
41
Restrictions on Entertainment
Expenses (slide 3 of 3)
• Business gifts
– Business gifts of tangible personalty with a value
of $25 or less per person per year are deductible
• Incidental costs (e.g., gift-wrapping) are not included in
the cost of the gift in applying the limit
– If the value is $4 or less (e.g., pen with company
name) then not subject to $25 limit
• Gifts to employers or superiors are not
deductible
42
Office in the Home
(slide 1 of 2)
• Deductibility is very restricted due to abuse
possibilities
– Office must be used exclusively and on a regular
basis as:
• The principal place of business, or
• A place of business used by clients, patients, or
customers
– For employees, office must also be for the
convenience of the employer
43
Office in the Home
(slide 2 of 2)
• What constitutes “principal place of business”?
– Home office qualifies as a principal place of
business if:
• Taxpayer conducts admin. and mgmt. activities in the
home office, and
• There is no other fixed location where taxpayer
conducts these activities
44
Office in the Home Deduction
(slide 1 of 5)
• Deduction can be determined in either of two
ways:
– The regular (actual expense) method, or
– The simplified (safe harbor) method
45
Office in the Home Deduction
(slide 2 of 5)
• Regular method
– Relevant expenses are categorized as direct or
indirect
• Direct expenses benefit only the business part of the
home (e.g., the office is repainted)
– Deducted in full
• Indirect expenses are for maintaining and operating the
home
– Allocate between business and personal
46
Office in the Home Deduction
(slide 3 of 5)
• Regular method
– Allowable home office expenses cannot create a
loss
• Amounts allowed as itemized deductions anyway
must be deducted first
– e.g., mortgage interest & real estate taxes
– Any disallowed amounts are carried forward and
used in future years subject to the same limitations
47
Office in the Home Deduction
(slide 4 of 5)
• Regular method
– All home office expenses of an employee are misc.
itemized deductions, except those (such as interest
and taxes) that qualify as other personal itemized
deductions
– Home office expenses of a self-employed
individual are trade or business expenses and are
deductible for AGI
48
Office in the Home Deduction
(slide 5 of 5)
• Simplified method
– A home office expense deduction of $5 per square
foot is allowed
• Since no more than 300 square feet can be counted, the
maximum deduction is limited to $1,500
– No deduction is allowed for depreciation or other
actual expenses of operating the home
• Otherwise deductible amounts for interest and taxes
may still be deducted in full
– No carryover of unused amounts is allowed
49
Other Employee Expenses
• A partial list of other employee expenses that
are deductible includes:
–
–
–
–
–
Special clothing (uniforms)
Union dues
Professional expenses
Job hunting in same profession
Educator expenses (deductible for AGI)
• Limited to $250 per year for supplies, etc. of elementary
and secondary school teachers
50
Other Employee Expenses
• A partial list of other employee expenses that
are deductible includes:
–
–
–
–
–
Special clothing (uniforms)
Union dues
Professional expenses
Job hunting in same profession
Educator expenses (deductible for AGI)
• Limited to $250 per year for supplies, etc. of elementary
and secondary school teachers
51
Other Employee Expenses
• A partial list of other employee expenses that
are deductible includes:
–
–
–
–
–
Special clothing (uniforms)
Union dues
Professional expenses
Job hunting in same profession
Educator expenses (deductible for AGI)
• Limited to $250 per year for supplies, etc. of elementary
and secondary school teachers
52
The Big Picture - Example 45
Job Hunting Expenses
• Return to the facts of The Big Picture on p. 9-1.
• Recall that Morgan conducted an extensive job
search before obtaining her position with Kite
Corporation.
– Because this is her first job, the expenses she
incurred in the search are not deductible.
53
Contributions to Retirement Accounts
(slide 1 of 2)
• Retirement plans fall into two major
classifications depending on who is covered
– For employees – usually follow one of two income
tax approaches
• Most plans allow an exclusion from income for the
contributions the employee makes to the pension plan
• Alternatively, using the approach followed by a
traditional IRA, a contributing employee is allowed a
deduction for AGI
– Maximum deduction is $5,500 for 2014 and 2015
54
Contributions to Retirement Accounts
(slide 2 of 2)
• Retirement plans for self-employed taxpayers
– Called Keogh (or H.R. 10) plans
• Follow the deduction approach of traditional IRAs
• Amounts contributed under a plan are deductible for
AGI
55
Classification of Employee Expenses
(slide 1 of 2)
• Depends on whether they are reimbursed and,
if reimbursed, under what type of plan
56
Classification of Employee Expenses
(slide 2 of 2)
• Employers can have three types of
reimbursement plans
– Accountable
– Nonaccountable
– No reimbursement is given
57
Accountable Plan
(slide 1 of 2)
• Plan must require adequate accounting to the
employer for expense reimbursed, and
• Any excess reimbursements must be returned
to the employer
58
Accountable Plan
(slide 2 of 2)
• Adequate accounting is
– Submitting a record, with receipts, to the
employer, or
– Using a per diem allowance that is not more than
the Federal per diem rate
• Employee reports no income and takes no
deduction to the extent of the reimbursed
expenses
59
Substantiation for Expenditures
(slide 1 of 2)
• No deduction allowed for an expense if the
taxpayer does not have adequate records for
the expense
– Therefore, taxpayers need to have good records for
employee or self-employed expenses
• In some cases, use of per diem allowance will be
deemed substantiation
60
Substantiation for Expenditures
(slide 2 of 2)
• Records should include:
– The amount of the expense
– The time and place of travel or entertainment (or
date of gift)
– The business purpose of the expense
– The business relationship of the taxpayer to the
person entertained (or receiving the gift)
61
Nonaccountable Plan
• Plan that does not require adequate accounting
or return of excess reimbursement or both
– Reimbursed amounts received under this plan are
included in gross income
– Expenses are deductible from AGI as
miscellaneous itemized deductions subject to the
2% of AGI limitation
62
Unreimbursed Employee Expenses
• Expenses are deductible from AGI as
miscellaneous itemized deductions subject to
the 2% of AGI limitation
– If employee could have received, but did not seek,
reimbursement for whatever reason, none of the
employment-related expenses are deductible
63
Miscellaneous Itemized
Deductions
• Miscellaneous itemized deductions subject to
the 2% of AGI limitation
– Certain miscellaneous expenses must be added
together and the amount in excess of 2% of
taxpayer’s AGI is deductible from AGI (i.e.,
itemized deduction reported on Sch. A)
64
Examples of Miscellaneous Itemized
Deductions Subject to 2% Floor
• Most reimbursed expenses under a nonaccountable
plan
• Unreimbursed employee expenses
• Section 212 expenses not related to rents and
royalties
• Tax return preparation fee
• Hobby expenses
• Investment expenses (except interest and taxes)
65
Examples of Miscellaneous Itemized
Deductions Not Subject to 2% Floor
• Impairment-related work expenses of
handicapped individuals
• Gambling losses to the extent of winnings
• Certain terminated annuity payments
66
Computing 2% of AGI Limitation
(slide 1 of 2)
• Example
Taxpayer, a single individual, provides the following
information for 2015
•
•
•
•
$30,000 AGI
$ 6,500 deductible interest expense and taxes paid
$ 1,500 employee business expenses, and
$ 500 tax return preparation fee
67
Computing 2% of AGI Limitation
(slide 2 of 2)
• Example (cont’d)
Interest and taxes
Misc. expenses:
Employee bus. exp.
Tax return prep.
Total
Less 2% AGI
Itemized deductions
$6,500
$1,500
500
$2,000
- 600
1,400
$7,900
68
Refocus On The Big Picture (slide 1 of 5)
• Several tax issues might arise as a result of Morgan’s
new job.
– The first tax issue relates to the dependency exemption.
• If Morgan was living at home and accepted the job late in the year,
she could qualify as a dependent of her parents.
– If so, they might also be able to claim the qualified tuition deduction
(or the lifetime learning credit).
– If, however, her employment began early in the year, it
may not be possible for her parents to claim her as a
dependent either because
• She is not a qualifying child due to the self-supporting limitation, or
• She is not a qualifying relative due to the gross income limitation—
see Chapter 3.
69
Refocus On The Big Picture (slide 2 of 5)
• Other tax issues would include the following.
• Job hunting expenses - Morgan’s ‘‘extensive search’’ for employment
suggests that she may have incurred job hunting expenses
– Such expenses are not deductible in a first job setting.
• Moving Expenses - Her qualified moving expenses are not so restricted.
– Moving expenses are deductions for AGI.
• Office in the home deduction - Under the circumstances, Morgan is
justified in claiming an office in the home deduction using either the
regular method or the simplified method.
– Under the regular method, the deduction would include a portion of the rent
and utilities paid and related maintenance costs.
– The safe harbor method would allow Morgan $5 per square foot for business
space, but not more than 300 square feet, or $1,500.
– Under either method, she would also be allowed depreciation (or expensing) of
office equipment and furnishings (e.g., computer, copier, desk, file cabinet).
– She must be careful not to violate the ‘‘exclusive use’’ restriction.
70
Refocus On The Big Picture (slide 3 of 5)
• Travel – Morgan is required to travel as part of her job and so
will use her car for business.
– Thus, she will need to make a choice between the automatic mileage
method and the actual cost method.
– Since her tax home is in her apartment, she will have no nondeductible
commuting expenses.
71
Refocus On The Big Picture (slide 4 of 5)
• Travel Allowance – Tax treatment depends on whether it is an
accountable plan
– If she renders an adequate accounting (and has to return any excess) to
Kite Corporation, then her allowance need not be reported on her
Federal income tax return.
• Nonreimbursed amounts, however, must be allocated between meals and
entertainment (subject to the 50% cutback) and other employment-related
expenses.
• The balance is an itemized deduction subject to the 2 percent-of-AGI floor.
– If she does not render an adequate accounting, the full allowance is
included in her gross income.
• All of the meals and entertainment expenses are subject to the 50%
cutback, and
• The total of all employment-related expenses is an itemized deduction
subject to the 2 percent-of-AGI floor.
72
Refocus On The Big Picture (slide 5 of 5)
• If Morgan started her job late in the year, it is
unlikely that she will be in a position to itemize her
deductions.
– Instead, she will claim the standard deduction effectively
eliminating her ability to deduct any employment-related
expenses.
• Morgan must maintain adequate substantiation
regarding all of these employment related
transactions.
– Detailed records are particularly important in arriving at the
office in the home deduction and the business use of an
automobile under the actual cost method.
73
If you have any comments or suggestions concerning this
PowerPoint Presentation for South-Western Federal
Taxation, please contact:
Dr. Donald R. Trippeer, CPA
trippedr@oneonta.edu
SUNY Oneonta
© 2016 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
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