Tax Facts

749 / How are business expenses reported for income tax purposes?

A deduction is permitted for all ordinary and necessary expenses paid or incurred during the taxable year in carrying on a trade or business. Examples of deductible business expenses include: (1) expenditures for reasonable salaries, (2) traveling expenses (within limits), and (3) certain rental expenses incurred for purposes of a trade or business.1 Illegal payments made in the course of business, such as bribes to government officials or illegal rebates (see Q 658), are not deductible.2 Under the 2017 Tax Act, certain expenses paid to (or at the direction of) a government or government entity in relation to the violation of any law, or investigation into potential violations of the law, are not deductible.3 Further, amounts paid in relation to sexual harassment suits that are subject to a nondisclosure agreement are not deductible.4


Planning Point: The IRS released a memorandum addressing whether a lawsuit settlement could be deducted as an expense under IRC Section 162(a). It determined that the business itself was required to prove whether the payments were compensatory, and thus deductible, or punitive (such as a fine or penalty, and thus nondeductible). This was the case despite the fact that the settlement specifically provided that the payments were not to be construed as fines or penalties. A deductible payment under Section 162 is generally one meant to compensate another party or to ensure compliance with a law. In this case, the IRS required further factual analysis to determine the nature of the payments, highlighting the fact that a settlement agreement alone will not be controlling.5


In 2024, the business standard mileage is 67 cents per mile driven for business purposes.  In 2023, the business standard mileage rate is 65.5 cents per mile (up from 58.5 cents per mile for the first half of 2022 and 62.5 cents for the second half of 2022, 56 cents per mile in 2021, 57.5 cents in 2020, 58 cents in 2019 and 54.5 cents in 2018).6


Planning Point: The IRS increased the business standard mileage rate in the second half of 2022 in response to rising gas prices.


The amount of the deduction for expenses incurred in carrying on a trade or business depends upon whether the individual is an independent contractor or an employee. Typically, whether an insurance agent is considered an independent contractor or employee is determined on the basis of all the facts and circumstances involved; however, where an employer has the right to control the manner and the means by which services are performed, an employer-employee relationship will generally be found to exist.7 The IRS has ruled that a full-time life insurance salesperson is not an “employee” for purposes of IRC Sections 62 and 67, even though he is treated as a “statutory employee” for Social Security tax purposes.8 See Q 3928. Furthermore, according to decisions from the Sixth and 11th Circuit Courts of Appeals, the fact that an insurance agent received certain employee benefits did not preclude his being considered an independent contractor, based on all the other facts and circumstances of the case.9 The IRS has determined, however, that a district manager of an insurance company was an employee of the company, and not an independent contractor.10 On the other hand, the IRS has determined that individuals who were regional and senior sales vice presidents of an insurance company (but who were not officers of the company) were independent contractors and not employees of the insurance company.11


Planning Point: The Sixth Circuit Court of Appeals confirmed in 2019 that life insurance agents were properly classified as independent contractors, rather than employees. The case involved eligibility for benefits under ERISA, and a district court, using the traditional Darden factors for determining classification status, had ruled in 2017 that the agents were employees who were eligible for ERISA benefits. In reversing the lower court, the Sixth Circuit gave weight to the fact that both parties had expressed their intent that an independent contractor relationship would apply. The case also opens the possibility that the weight given to the various Darden factors should vary based upon the context of the case—for example, in this case, financial benefits were at issue, so the court gave more weight to the financial structure of the relationship.12


Independent contractors may deduct all allowable business expenses from gross income (i.e., “above-the-line”) to arrive at adjusted gross income.13 Prior to 2018, the business expenses of an employee were deductible from adjusted gross income (i.e., “below-the-line”) if he or she itemized instead of taking the standard deduction, but only to the extent that they exceeded
2 percent of adjusted gross income when aggregated with other “miscellaneous itemized deductions.” All miscellaneous itemized deductions subject to the 2 percent floor were suspended for 2018-2025.

Industrial agents (or “debit agents”) are treated as employees for tax purposes.14 Thus, as in the case of any employee, a debit agent can deduct transportation and away-from-home traveling expenses from adjusted gross income if he itemizes, only to the extent that the aggregate of these and other miscellaneous itemized deductions exceed 2 percent of adjusted gross income (prior to 2018 and, presumably, after 2025).15

Self-employed taxpayers are permitted a deduction equal to one-half of their self-employment (i.e., Social Security) taxes for the taxable year. This deduction is treated as attributable to a trade or business that does not consist of the performance of services by the taxpayer as an employee; thus it is taken “above-the line.”16

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