Typically, business owners reimburse their employees when they incur a necessary expense in the workplace. But when employers fail to pay their employees back for these expenses, it’s known as an unreimbursed business expense.
Unfortunately, most employees can’t deduct unreimbursed employee expenses on their income tax return, which means that if they aren’t reimbursed by their employer, they’re out of luck.
Here’s what you need to know about unreimbursed business expenses, including who can deduct these expenses from tax returns and how to do it:
What are unreimbursed business expenses?
It’s not that unusual for employees to cover certain expenses upfront out of their own pockets and then get reimbursed later. This coverage might include such things as:
- New computer equipment
- Business travel expenses
- Meals (e.g., during a business trip)
- Transportation and parking fees
- Lodging
- Office supplies
- Legal fees related to the job
Ordinarily, employers cover any expenses incurred for a legitimate business purpose, though they will likely ask the employee to provide documentary evidence (e.g., an invoice or receipt) for job-related expenses. Be sure to talk with your employer about their reimbursem*nt policy and to check if there are daily limits for reimbursable expenses.
When the employer fails to reimburse employees for such expenses, then these become unreimbursed employee/business expenses.
What qualifies as an unreimbursed business expense?
Unreimbursed business expenses include any job-related expenses that an employee must cover out of pocket.
The Internal Revenue Service (IRS) doesn’t allow employees to deduct expenses incurred from their daily commute, but other expenses can be classified as reimbursable. This designation also means that if employers don’t pay their employees back, these costs become unreimbursed job expenses.
Unreimbursed business expenses, therefore, represent expenses that include:
- Ordinary and necessary expenses
- Expenses paid or incurred during the tax year
- Unreimbursed expenses for a specific trade or business purpose
To be clear, an "ordinary expense" is anything that is common and accepted in your trade or industry.
Here are some of the most common examples of expenses that you might incur as part of your job:
Tools and supplies
If used for essential business purposes, your tools and supplies count as business expenses. This coverage extends to office supplies, computer equipment, and even the software you might need to perform your daily responsibilities. If you purchase these items yourself, they may be classified as unreimbursed business expenses.
Business travel
Travel expenses can easily rack up the dollars since they may include transportation, meals, lodging, and any fees associated with a business conference or other major event. At the end of a business trip, employees can turn in their receipts for reimbursem*nt from their employer. Otherwise, these business travel expenses become unreimbursed employee business expenses.
Professional organization dues
Depending on your industry, workers may be expected to join professional societies or even unions. Ideally, employers should reimburse their employees for professional organization dues paid since this money is typically connected to the local chapter of these professional societies.
When employees cover these professional organization dues on their own, these dues also become unreimbursed job expenses.
Additionally, professional development courses and other forms of continuing education may also be classified as unreimbursed expenses and may be used for a tax deduction if you qualify.
Work clothes and uniforms
To be clear, your regular clothing is not something for which your employer is responsible, even if you are required to adhere to a company dress code. However, there may be times when you’ll be required to purchase certain types of protective clothing, uniforms, or other items.
For example, if your job requires you to wear safety glasses and steel-t0e boots, these count as unreimbursed employee expenses. Similarly, certain types of performing artists can deduct the cost of costumes when the clothing is not suited for "everyday wear," per the IRS.
Educator expenses
Educator expenses represent one of the few expenses that employees can deduct from their tax returns.
If you’re a teacher, principal, or any type of classroom aide, the IRS allows you to deduct up to $250 in unreimbursed expenses from your tax return. These expenses include things like computer equipment, books, art supplies, and anything else that students would need in the classroom.
Who can deduct unreimbursed employee expenses?
Independent contractors may deduct unreimbursed job expenses regardless of the amount or industry. In fact, contractors should never expect their clients to reimburse them for tools or supplies unless the contract says otherwise.
Unfortunately, regular W-2 employees are no longer permitted to deduct unreimbursed employee expenses. Since 2020, the Tax Cuts and Jobs Act (TCJA) has eliminated miscellaneous itemized deductions for all but a handful of employees.
However, there are several exceptions to this rule. The following special groups can still claim deductions on their annual tax returns:
Armed forces reservists
If you’re a member of a reserve component of the U.S. military, you can continue making miscellaneous itemized deductions for your unreimbursed business expenses. As with any itemized deduction, tax filers must make sure that these expenses are directly related to their employment and that they have receipts to provide sufficient evidence of their amount.
Fee-basis state or local government officials
Typically, a salaried government official would not qualify for these types of business expense deductions. But if you’re employed by a state or local government and are paid by fees (whether in part or in whole), you’ll be able to deduct unreimbursed job expenses.
Qualified performing artists
Performing artists may also qualify for itemized deductions, though the rules about what qualifies as a "performing artist" are a bit strict. To qualify, you must meet the following criteria:
- Have at least two employers in a single calendar year
- Earn at least $200 from each employer
- Report $16,000 or less for your adjusted gross income
If you have other sources of income, your performing arts earnings cannot exceed 10% of your total taxable income.
Employees with impairment-related work expenses
If you have physical or mental disabilities, you might need certain types of equipment when performing services for your employer. You may claim deductions on this equipment on your annual tax return.
Educators
Technically, educators are not eligible to deduct all types of business expenses on their tax returns. However, educators may deduct ordinary classroom-based expenses when filing their annual income tax. While teachers are not specifically named in the TCJA, these expenses still qualify for itemized deductions.
Individual partners and S corporation shareholders may also take itemized deductions for unreimbursed employee/business expenses, though the rules differ slightly.
Partners
Business partners can deduct ordinary business expenses if the partnership agreement specifies that they must pay them as part of the business. In other words, partners can only make these sorts of business expense deductions if the partnership agreement specifically dictates that partners pay these fees out of their own pockets.
However, a partner may not deduct expenses that the partnership would ordinarily reimburse. In this sense, the partner is treated much like an employee and cannot qualify for itemized deductions on these additional expenses.
S corporation shareholders are generally categorized as employees when performing services for the corporation. This designation means that shareholders cannot deduct unreimbursed employee expenses unless these expenses relate directly to corporate business and not the officer or shareholder.
How to deduct unreimbursed employee/business expenses
Assuming you qualify to take an itemized deduction for your unreimbursed business expenses, you’ll observe the following process. Notice that you’ll use one of two tax forms (Form 1040 or Form 2106) depending on your exact situation.
For employees (general)
If you qualify for an employee business expense deduction, you’ll file Form 2106 with your personal tax return. This form will ask you to enter the total amount of unreimbursed business expenses paid out of pocket and will also ask for any portion that your employer already reimbursed.
As always, save your receipts to provide documentation of these expenses. There may also be some additional limitations on your deduction based on your worker classification and the exact nature of your expenses. For specific tax advice, consult an accountant or other financial professional.
For educators
Teachers don’t receive the same sort of tax treatment as the other groups listed above but may still deduct ordinary classroom expenses on their tax returns. But unlike other employee expenses that might be unreimbursed, educators will put their educator expense deduction on Form 1040 Schedule 1, line 10.
For business owners
Ideally, business owners should be reimbursing their employees for qualified expenses incurred as part of the job. The good news is that employers can also deduct these reimbursem*nts, thus reducing their overall tax liability.
If you’re a business owner, you can deduct employee reimbursem*nts from your business taxes. This approach will reduce your overall taxable income, which can save you money.
Why business owners should reimburse their employees
If you’re a small business owner, it pays to reimburse your staff for any business expense that they incur as part of your team. For starters, you can deduct these reimbursem*nts to reduce your taxable income and improve your bottom line.
But beyond your tax liability, reimbursing your employees is just good business sense. Few things will crush employee morale like being personally responsible for the company’s business expenses. Reimbursing your employees will therefore go a long way to improving workplace culture, which in turn can help you attract and retain top talent.
That’s actually why it helps to have the right financial software at your fingertips. The right software platform can help you keep track of all of your expenses, which in turn can help you tabulate your business expense deductions for each tax year.
Additionally, having adequate records will help you ensure that you’re paying your employees promptly and that you have a healthy cash flow to invest in future projects.
Good business starts with good software
Invoice2go offers an innovative platform that helps business owners track every business expense and stay on top of their financial health.
This state-of-the-art software can also provide reports to help you analyze the trajectory of your company, allowing you to refine your vision and hone your strategy. Sign up now, and you’ll get 30 days to explore these features absolutely free.
Frequently asked questions
For specific tax issues, consult an accountant or financial professional. Here are the answers to some common questions regarding unreimbursed employee expenses:
Can I sue my employer for unreimbursed employee/business expenses?
This possibility can be a tricky subject. Unless the employer makes a habit of failing to pay back business expenses, these unreimbursed employee expenses are usually not large enough to justify an actual lawsuit.
However, there may be circ*mstances in which the employer has a habit of passing on expenses to its employees. For example, if employees are routinely expected to provide their own cleaning supplies or office equipment, the collective cost might warrant a class-action lawsuit where the entire staff seeks legal compensation.
The rules can vary by state, so always consult an attorney before taking legal action against your employer.
Can I deduct unreimbursed business expenses if I’m self-employed?
Self-employed freelancers and contractors will typically have to cover the cost of their equipment and supplies unless the contract dictates otherwise. This setup means that if you’re self-employed, you can list these expenses among your miscellaneous itemized deductions on your annual income tax return.
Just make sure to save your receipts and invoices to provide sufficient evidence of each business expense, and don’t forget that you’ll also be subject to the self-employment tax.
When does the Tax Cuts and Jobs Act (TCJA) end?
Prior to 2020, taxpayers were able to deduct unreimbursed employee business expenses as miscellaneous itemized deductions, subject to Sec. 67’s 2% floor on miscellaneous itemized deductions, as well as Sec. 68’s limitation on itemized deductions as a whole.
That changed with the Tax Cuts and Jobs Act (TCJA) of 2020. The restrictions associated with this act are slated to expire in 2026, and when it does, miscellaneous itemized deductions are expected to return for all employees and not merely the exceptions listed above.
Still, it’s uncertain how the political landscape might change in the coming years, which may mean an extension of the TCJA rules for the foreseeable future.
Try Invoice2go Free
As a seasoned financial professional with extensive expertise in tax regulations and business practices, I aim to provide comprehensive insights into the article's subject matter: unreimbursed business expenses. Over the years, I have navigated through the intricacies of tax laws and financial management, ensuring a deep understanding of the concepts involved.
The article discusses unreimbursed business expenses, a scenario where employees incur necessary expenses in the workplace but are not reimbursed by their employers. Let's delve into the key concepts presented:
-
Unreimbursed Business Expenses Overview:
- Business owners typically reimburse employees for necessary workplace expenses.
- Failure to reimburse results in unreimbursed business expenses for employees.
- Employees, unfortunately, can't deduct these expenses on their income tax return if not reimbursed.
-
Qualifying Unreimbursed Business Expenses:
- Examples of qualifying expenses include new computer equipment, business travel, meals during business trips, transportation and parking fees, lodging, office supplies, and legal fees related to the job.
- Employers usually cover legitimate business expenses but may ask for documentary evidence (e.g., invoices or receipts).
-
Criteria for Unreimbursed Business Expenses:
- Unreimbursed expenses must be ordinary, necessary, paid or incurred during the tax year, and for a specific trade or business purpose.
- "Ordinary expense" refers to anything common and accepted in the trade or industry.
-
Common Examples of Unreimbursed Business Expenses:
- Tools and supplies used for essential business purposes.
- Business travel expenses, including transportation, meals, lodging, and conference fees.
- Professional organization dues, including those for societies or unions.
- Work clothes and uniforms required for the job.
- Educator expenses, with a $250 deduction for teachers, principals, and classroom aides.
-
Who Can Deduct Unreimbursed Employee Expenses:
- Independent contractors can deduct unreimbursed job expenses.
- W-2 employees, in most cases, cannot deduct unreimbursed employee expenses due to the Tax Cuts and Jobs Act (TCJA) since 2020.
- Exceptions include armed forces reservists, fee-basis state or local government officials, qualified performing artists, employees with impairment-related work expenses, educators, individual partners, and S corporation shareholders.
-
Deduction Process:
- Different tax forms (Form 1040 or Form 2106) are used depending on the situation.
- Specific instructions for employees, educators, and business owners on how to deduct unreimbursed business expenses.
-
Business Owner Perspective:
- Business owners can deduct employee reimbursem*nts, reducing taxable income.
- The importance of reimbursing employees for business expenses to enhance workplace culture and attract top talent.
-
FAQs and Additional Information:
- FAQs addressing legal action for unreimbursed expenses, deductions for self-employed individuals, and the end date of the TCJA.
In conclusion, understanding and managing unreimbursed business expenses are crucial for both employees and employers, and staying informed about tax regulations is essential for navigating this complex landscape.
