The process of submitting and approving expense reports for business travel can be an administrative hassle if your business reimburses employees for actual travel expenses. Fortunately, the IRS offers simplified alternatives that can save time and reduce recordkeeping.
Per Diems vs. “High-Low” Rates
Instead of reimbursing employees for their actual expenses for lodging, meals and incidentals while traveling, employers may pay them a per diem amount, based on IRS-approved rates that vary from locality to locality. If your company uses per diem rates, employees don’t have to meet the usual recordkeeping rules required by law.
Receipts of expenses generally aren’t required under the per diem method. Instead, the employer simply pays the specified allowance to employees, although they still must substantiate the time, place and business purpose of the travel. Per diem reimbursements generally aren’t subject to income or payroll tax withholding or reported on the employee’s Form W-2.
Important note: Per diem rates can’t be paid to individuals who own 10% or more of the business.
Under the “high-low method,” the IRS establishes an annual flat rate for certain areas with higher costs of living. All the locations within the continental United States that aren’t listed as “high-cost” automatically fall into the low-cost category. The high-low method may be used in lieu of the specific per diem rates for business destinations. Examples of high-cost areas include San Francisco, Boston and Washington, D.C. (See the chart below for a complete list by state.)
Under some circumstances — for example, if an employer provides lodging or pays the hotel directly — employees may receive a per diem reimbursement only for their meals and incidental expenses. There is also a $5 incidental-expenses-only rate for employees who don’t pay or incur meal expenses for a calendar day (or partial day) of travel.
Slight Increases for 2018
The IRS recently updated the per diem rates for business travel for fiscal year 2018, which starts on October 1, 2017. Under the high-low method, the per diem rate for all high-cost areas within the continental United States is $284 for post-September 30, 2017, travel (consisting of $216 for lodging and $68 for meals and incidental expenses). For all other areas within the continental United States, the per diem rate is $191 for post-September 30, 2017, travel (consisting of $134 for lodging and $57 for meals and incidental expenses). Compared to the prior simplified per diems, both the high- and low-cost area per diems have increased $2.
The following costs aren’t included in incidental expenses:
- Transportation costs between places of lodging or business and places where meals are taken, and
- Mailing costs of filing travel vouchers and paying employer-sponsored charge card billings.
Accordingly, eligible taxpayers using per diem rates may separately deduct, or be reimbursed for, transportation and mailing expenses.
The IRS also modified the list of high-cost areas for post-September 30 travel. The following localities have been added to the high-cost list:
- Oakland, Calif.,
- Lewes, Del.,
- Fort Myers, Fla.,
- Hyannis, Mass.,
- Petoskey, Mich.,
- Portland, Or., and
- Vancouver, Wash.
On the other hand, these areas have been removed from the previous list of high-cost localities:
- Sedona, Ariz.,
- Los Angeles, Calif.,
- Vero Beach, Fla., and
- Kill Devil, N.C.
Note: Certain tourist-attraction areas only count as high-cost areas on a seasonal basis. Starting on October 1, the following tourist-attraction areas have changed the portion of the year in which they are high-cost localities:
- Aspen, Colo.,
- Denver/Aurora, Colo.,
- Telluride, Colo.,
- Vail, Colo.,
- Bar Harbor, Maine,
- Ocean City, Md.,
- Nantucket, Mass.,
- Philadelphia, Pa.,
- Jamestown/Middletown/Newport, R.I., and
- Jackson/Pinedale, Wyo.
Rules and Restrictions
Companies that use the high-low method for an employee must continue to use it for all reimbursement of business travel expenses within the continental United States during the calendar year. The company may use any permissible method to reimburse that employee for any travel outside the continental United States, however.
For travel in the last three months of a calendar year, employers must continue to use the same method (per diem method or high-low method) for an employee as they used during the first nine months of the calendar year. Also, employers may use either:
- The rates and high-cost localities in effect for the first nine months of the calendar year or
- The updated rates and high-cost localities in effect for the last three months of the calendar year, as long as they use the same rates and localities consistently for all employees reimbursed under the high-low method.
In terms of deducting amounts reimbursed to employees on the company’s tax return, employers must treat meals and incidental expenses as a food and beverage expense that’s subject to the 50% deduction limit on meal expenses. For certain types of employees — such as air transport workers, interstate truckers and bus drivers — the percentage is 80% for food and beverage expenses related to a period of duty subject to the hours-of-service limits of the U.S. Department of Transportation.
Example: A company reimburses its marketing manager for attending a June trade show in Philadelphia based on the $284 high-cost per diem. It may deduct $250 ($216 for lodging plus $34 for half of the meals and incidental expense allowance).
Could using travel per diems work for your business? Contact us to discuss the pros and cons of per diem substantiation methods. We can help you implement travel expense reimbursement policies and procedures that will pass IRS scrutiny.