If you operate through an entity and pay business expenses personally, how those get reimbursed determines whether the money is tax-free or taxable wages. The mechanism is an accountable plan and it is straightforward to set up.
Why it matters most for S corps
An S corp shareholder-employee cannot take the home office deduction on their personal return the way a sole proprietor can. Without an accountable plan, out-of-pocket business expenses are simply unreimbursed employee expenses — which are not currently deductible for most taxpayers.
With an accountable plan, the company reimburses them. The reimbursement is not income to you and it is deductible to the company. Same money, entirely different tax result.
The three requirements
- Business connection. The expense must have been incurred in performing services for the employer.
- Substantiation. Adequate records — amount, date, place, business purpose — submitted to the employer within a reasonable time.
- Return of excess. Any advance exceeding substantiated expenses must be returned within a reasonable time.
Fail any of the three and the plan is non-accountable, which means the payments are wages subject to payroll tax.
What typically gets reimbursed
- Home office, calculated on the same basis a sole proprietor would use.
- Mileage at the standard rate, supported by a contemporaneous log.
- Cell phone and internet, at the business-use percentage.
- Travel, meals within the applicable rules, and lodging.
- Supplies, tools and subscriptions paid personally.
- Professional development and dues.
Setting it up
A written plan adopted by the company, a standard expense report form, a regular submission schedule, and reimbursement paid separately from payroll so it is clearly identifiable. None of that is complicated and all of it matters if the arrangement is ever examined.
The mistake to avoid
Paying yourself a round monthly "expense allowance" with no substantiation is a non-accountable plan whatever you call it, and the whole amount is wages. The documentation is not bureaucracy — it is the thing that makes the treatment work.
This article is general information, not tax advice, and tax rules change from year to year. Confirm current-year figures and talk with a professional about your specific situation before acting.
Common questions
What is an accountable plan?
A written arrangement under which a business reimburses employees for substantiated business expenses. The reimbursement is not taxable income to the employee and is deductible to the business, provided the business-connection, substantiation and return-of-excess requirements are met.
Can an S corp owner deduct a home office?
Not directly on the personal return the way a sole proprietor can. The usual route is an accountable plan under which the company reimburses the home office cost — which is tax-free to the owner and deductible to the company.
Can I just pay myself a monthly expense allowance?
Not without substantiation. An allowance paid without documented expenses is a non-accountable plan and the whole amount is treated as taxable wages subject to payroll tax, whatever it is called.
Have a question about your situation?
Robert prepares returns for individuals, contractors, and small business owners across Weatherford, Aledo, Willow Park, Springtown, Mineral Wells, and the rest of Parker County. Bring your questions — the first conversation is free.