Documenting Business Expenses

Figuring out what the IRS will allow you to deduct as a business expense can get pretty tricky when you enter the territory of travel and gifts. Whether a claimed expense is really business related or personal has been the subject of many a court case, with business people coming out as both winners and losers.

The key is to document how each expense is business related. An IRS auditor will demand documentation on the amount of the expense, when and where it was incurred, a description of the expense, and the business purpose or relationship that caused the expense. Generally, amounts should be compiled by type of expense. For example, travel expenses should be accumulated in categories such as airfare, taxis, automobile rentals, telephone calls, meals, etc.

Amounts should be totaled on a daily basis. However, the total amount of some expenses is acceptable. For example, a weekly automobile rental can be reported as one amount if the bill covers the whole week, rather than dividing it by the number of days rented.

The date the expense was incurred must be reported. Some expenses are better documented by providing the timing of the expense in addition to the date. For example, for a lunch to be deductible, a business discussion must occur directly before, during, or after the lunch.

The name and address or location of where the expense was incurred should be provided. For travel expenses, the name of the city or other information that identifies the place is needed.

When a personal vehicle is used for travel, the mileage for business use multiplied by the allowable IRS mileage rate can be used in lieu of actual automobile expenses. When using actual expenses, the cost of the vehicle (subject to limitations for luxury vehicles) can be depreciated and added to the actual cost of gas, oil, vehicle upkeep, insurance, etc. The mileage method is much simpler, but often results in lower expenses.

Whenever the nature of the expense does not lend itself to a description (a cash-register receipt may not provide this), a written description should be provided. This especially applies to gifts.

The description of the business purpose or business relationship is the most subjective part of the documentation process. The business purpose or expected benefit should be documented along with the nature of the business discussion or activity. Documenting the business relationship involves recording the names of persons entertained, their titles, and their business relationship to what you are doing. An explanation of how this furthers your corporate objectives is of particular benefit.

Documenting this information should be done as soon as possible after the expense is incurred--the IRS deems this as more credible evidence and you are less likely to forget important details. Waiting until you are audited never works. Most of the required information is provided on credit-card slips, so you need only record the person or persons involved and the business purpose or relationship.

Receipts, invoices, or bills from vendors are preferable to documents generated internally. Where there is no documentation or corroboration from a third party source, a detailed account (with both descriptions and amounts) is essential. In this case, the more detail and description included the better.