The Internal Revenue Code allows the deduction of “ordinary and necessary” business expenses, including travel expenses while away from home overnight for business. A recent ruling by the U.S. Tax Court in Maki v. Comm’r, T.C. Summary 2019-34 (Tax Ct. 2019), is a good reminder that the deduction is subject to some restrictions.

Taxpayer harvests travel expenses

In 2013, the tax year at issue, the taxpayer resided in King County, Washington. In the early 1980s, he had inherited more than 100 acres of Washington State land that were located in two counties about 300 miles round trip from his home.

The taxpayer traveled there every week to tend and monitor timber on the land so that it could be harvested for future financial needs. He also visited to ensure that he did not lose value because of illegal harvesting or other types of damage.

He kept a log of the days he visited and stayed on the properties, but it and other contemporaneous records were stolen. Before the theft, though, he had prepared a summary of his 2013 visits for the IRS. The summary showed that the taxpayer was present at the properties 161 days in 2013 and made 47 round trips from his residence.

Although he claimed no income from timber activity on his tax return for the year, he claimed several business-related deductions, including $7,011 for travel and $55,925 in “away from home” per diems. The IRS disallowed both expenses.

Court cuts down deduction

The IRS argued that the taxpayer had not adequately substantiated the expenditures. The court, however, disagreed. It found that he had established a normal pattern of travel that rarely varied and that he always traveled to the same locations. The court also determined that he presented credible testimony that he maintained a log, from which the summary was extracted.

The court found that the taxpayer’s claims were sufficiently documented and it concluded that the expenses were “ordinary and necessary” because of the need to monitor the timber and maintain and plant trees. It, therefore, allowed the deduction of $7,011 for travel expenses, which was computed at the permitted per-mile rate multiplied by the 47 round trips made in 2013.

But the court struck down the $55,925 per diem deduction. Amounts calculated using the federal per diem rate are deemed substantiated, but the taxpayer must apply the proper rate.

In this instance, the taxpayer had used the per diem rates for “luxury water travel.” Those rates ring in at twice the highest federal per diem rate allowable at the time of the travel. As the court noted, the rates ranged from $320 to $374 per day and were intended for away-from-home expenses incurred on an ocean liner or cruise ship.

The federal per diem rate for meals that applied to many smaller localities in 2013, including the counties where the taxpayer’s timber land was located, was $46 per day (rates vary by region). As a result, he was entitled to deduct only $7,406 in per diem expenses for the year (161 days x $46).

Lessons learned

This case is yet another demonstration of the importance of properly documenting your expenses, travel or otherwise. If the IRS challenges a deduction, your documentation could make or break your case.  The second lesson, do not become greedy when using per diem rates that are not required to be documented.  Your actual expenses might be even higher.

Related Read: The Tax Importance of Having a Profit Motive

For more information, contact Mike Kovacs or your ORBA advisor at 312.670.7444. Visit ORBA.com to learn more about our Real Estate Group.