What Are Unreimbursed Business Expenses and How Are They Treated?

Employees and self-employed individuals often cover work-related expenses out of pocket. Some of these costs may qualify as unreimbursed business expenses, impacting tax obligations based on worker classification and expense type. Understanding the tax treatment of these expenses is essential for effective financial management.

Conditions for an Expense to Be Considered Unreimbursed

To qualify as an unreimbursed business expense, an individual must have personally paid for it without employer or client reimbursement. The expense must be necessary for work and not covered under an employer’s policy or an independent contractor’s agreement.

The IRS considers an expense “ordinary” if it is common in a particular trade and “necessary” if it is helpful for business. For example, a software developer purchasing specialized coding tools would meet this standard, whereas a suit for office wear would not, as it is not exclusive to business use.

The expense must have been paid or incurred during the tax year in which it is claimed. If an individual prepays for a multi-year certification, they generally cannot deduct the full cost in the first year unless it qualifies for amortization.

Categories of Deductible Out-of-Pocket Costs

Unreimbursed business expenses fall into different categories, depending on the nature of the work. While tax laws have changed, self-employed individuals can still deduct many of these costs.

Travel and Transportation

Work-related travel expenses are deductible if necessary for conducting business away from an individual’s regular workplace. This includes airfare, train tickets, rental cars, and mileage for personal vehicle use. The IRS allows self-employed individuals to deduct mileage using the standard mileage rate, which for 2024 is 67 cents per mile (IRS Notice 2023-239). Alternatively, actual vehicle expenses—such as gas, maintenance, and depreciation—can be deducted if properly documented.

Lodging and meals may also be deductible if the travel requires an overnight stay. Meals are generally limited to 50% of the cost, unless they qualify for a special exception. To be deductible, the trip must be primarily for business. Personal travel costs, such as sightseeing or entertainment, are not deductible.

Work-Related Supplies

Necessary supplies purchased for business use may qualify as deductible expenses. This includes office supplies like paper, pens, and printer ink, as well as specialized tools required for a trade or profession. A freelance graphic designer purchasing a digital drawing tablet or a construction worker buying safety gear could deduct these costs if they are not reimbursed.

For self-employed individuals, these expenses are reported on Schedule C (Form 1040) under “Office Expenses” or “Supplies.” If an item has a useful life of more than one year, it may need to be depreciated instead of deducted in full. The Section 179 deduction allows immediate expensing of certain business assets, up to $1,220,000 in 2024 (IRS Publication 946). However, personal use of these items must be excluded from the deduction calculation.

Professional Dues and Licenses

Membership fees for professional organizations, union dues, and costs associated with required licenses may be deductible if directly related to work. A real estate agent paying for a state licensing renewal or a lawyer maintaining bar association membership can claim these expenses. However, fees for social or recreational clubs, even if they offer networking opportunities, are not deductible under IRC Section 274(a)(3).

For self-employed individuals, these costs are reported as business expenses on Schedule C. Employees generally cannot deduct these expenses due to the suspension of miscellaneous itemized deductions under the Tax Cuts and Jobs Act (TCJA) of 2017, which remains in effect through 2025. If an employer requires a certification but does not reimburse the cost, employees may need to negotiate reimbursement instead of relying on a tax deduction.

Recordkeeping Essentials

Proper documentation is necessary to substantiate deductions and comply with tax regulations. The IRS requires records to be accurate, complete, and created at the time of the expense rather than reconstructed later. In an audit, deductions may be disallowed if documentation is insufficient.

Receipts, invoices, and bank statements serve as primary proof, but additional details strengthen a claim. Noting the business purpose, date, and parties involved helps establish that an expense was work-related. For example, if a consultant purchases industry research reports, keeping a record of how the information was used in client projects reinforces the deduction’s legitimacy. Digital storage solutions, such as cloud-based accounting software, can simplify recordkeeping.

The IRS advises keeping financial records for at least three years from the date a return is filed. However, if a taxpayer omits more than 25% of their income, the IRS can audit up to six years back. For fraudulent returns, there is no statute of limitations. Maintaining records beyond the minimum requirement may be beneficial, especially for expenses with long-term implications, such as equipment purchases subject to depreciation.

Reporting on Tax Forms

Taxpayers must report unreimbursed business expenses correctly on their returns. Self-employed individuals include these expenses on Schedule C (Form 1040) under categories such as “Legal and Professional Services,” “Repairs and Maintenance,” or “Other Expenses,” depending on the cost type. Misclassifying deductions can trigger IRS scrutiny or lead to disallowed claims.

For partners in a partnership, unreimbursed expenses may be deductible on Schedule E (Supplemental Income and Loss) rather than Schedule C, but only if the partnership agreement explicitly requires the partner to cover these costs. Without such a provision, the IRS may classify the expenses as personal rather than business-related. Partners should review their agreements to confirm eligibility.

Treatment Differences for Employees vs. Self-Employed

The tax treatment of unreimbursed business expenses depends on whether an individual is an employee or self-employed. Since the Tax Cuts and Jobs Act (TCJA) of 2017, employees generally cannot deduct these costs, whereas self-employed individuals can still claim them as business expenses.

For employees, the TCJA suspended miscellaneous itemized deductions subject to the 2% adjusted gross income (AGI) threshold through 2025. This means work-related travel, professional dues, and job-required supplies are no longer deductible on Schedule A (Form 1040), even if they were previously eligible. Some exceptions exist for qualified performing artists, Armed Forces reservists, and fee-based government officials, who can still deduct unreimbursed expenses on Form 2106 (Employee Business Expenses). For most employees, the only way to recover these costs is through an accountable plan, which allows tax-free reimbursement if properly documented.

Self-employed individuals, including freelancers and independent contractors, report business expenses on Schedule C (Form 1040), reducing taxable income directly. This provides a tax advantage, as these deductions lower both income tax and self-employment tax, currently 15.3% (covering Social Security and Medicare contributions). Unlike employees, self-employed individuals can also deduct expenses for maintaining a home office, provided it meets the exclusive and regular use test under IRC Section 280A. Given these benefits, workers transitioning from employment to self-employment must carefully track expenses to maximize deductions and minimize tax liability.