© Richard Cote | Dreamstime.com

Well, we all know that the IRS seldom gives us treats. As usual, it’s a treatment. They felt that certain expense items needed clarification with regard to who is responsible for picking up the tab on the 50 percent of meals and entertainment that is not deductible. But this rule, it seems to me, is equally applicable to autos and other expenses incurred by individuals who represent a company that is responsible for reimbursing them. The problem the IRS addressed pertains to an employee or independent representative who pays for a business meal or for entertainment. He or she then submits the item for reimbursement to the company.

The initial case here is really simple: the company reimburses the employee, so the company “bought” the expense and is responsible for deducting the expenses on its tax return, reduced by the 50 percent disallowance for meals and entertainment. The IRS now notes that the employee or independent representative has no deduction and therefore is not responsible for reporting the deduction or the 50 percent disallowance.

The complication sets in when the employee or independent representative has a budget or an expense allowance. For example, the company policy is to provide a $500 per month expense allowance. If there is no accounting to the company for this allowance, the IRS opinion is that the company has paid the $500 as compensation rather than an expense. In that case, the recipient must report the $500 as compensation rather than an expense. Also, the recipient must report the $500 as income and can deduct only what was actually spent, less the 50 percent disallowance.

A Tax Hook

In this case, the IRS has a couple of nasty hooks if the individual is an employee rather than an independent representative. On audit, the IRS can exact back payroll taxes on the company. It can then turn to the employee, increase his or her income by the $500, and allow the already 50-percent-reduced expense only as an itemized deduction on the employee’s Schedule A of Form 1040. That deduction may then automatically be further reduced by two percent of his or her Adjusted Gross Income.

So the IRS does offer a partial way out — the employee or independent representative must submit his or her actual expenses to the company. The company reduces the $500 by the total expenses submitted. The company charges the remainder as salary. The company deducts the accounted-for expenses less the 50 percent disallowance on its tax return. The employee has nothing to report beyond his or her now-inflated W-2. The independent representative will report the gross receipt ($500) as income but can deduct the expense as a reimbursed expense in full without reducing it by 50 percent. To the extent that the $500 exceeds actual expense, he or she has taxable income subject also to self-employment tax.

In the IRS’s mind, companies are deducting the $500 as “travel expenses” and not reducing it by the 50 percent, and the recipient isn’t reporting it because it’s reimbursement. In simple terms, the IRS is saying that, while it doesn’t expect to get paid twice, somebody has to be responsible for paying the tax on that 50 percent of meals and entertainment and the IRS is out to get it.

Miscellaneous Tax Changes

•   The 2011 business tax forms had a line (actually, the first line) which asked for receipts from credit cards as distinguished from cash and checks. Response on that line was not required for 2011; and, not only was the requirement also dropped for 2012, it is under reconsideration for future years. However, credit card companies will be producing the new form 1099-K with those amounts. Businesses should be sure to report at least the total of the 1099-K forms as gross income on their returns.

•   The 2013 optional mileage rate for autos has been increased to 56.5 cents per mile, a one-cent-per-mile increase over the rate for 2012. Medical mileage also was increased by one cent to 24 cents per mile. Charitable mileage was unchanged at 14 cents per mile.

•   The gift limit, which does not require the filing of a gift tax return, was increased $1,000 to $14,000 per recipient for 2013.

•   Trusts are in a difficult position. Capital gains have historically been maintained in and taxed to the trust. But this is investment income subject to the new tax. It might be advisable to amend the trust, if possible, to allow the trustee to distribute gains to the beneficiaries. Of course, their tax rates need to be taken into account before such an action. The trustee might choose to take the larger capital gains in 2012 and reinvest in similar assets.