What Personal Expenses Can My Business Pay For?

For many business owners, the line between a personal cost and a legitimate business expense can seem blurry. Paying for a personal item from a business account creates complications for tax reporting and the company’s financial health. Failing to properly distinguish and account for these expenditures can lead to disallowed deductions, unexpected tax liabilities, and potential scrutiny from the IRS. Correctly categorizing every outflow of cash ensures that tax returns are accurate and that financial statements are a reliable tool for making strategic decisions.

The “Ordinary and Necessary” Rule

At the heart of business expense deductibility is a two-part IRS test: every expense must be both “ordinary and necessary.” This rule applies universally, whether the expense is for office supplies or major equipment.

An ordinary expense is one that is common and accepted in your specific trade or industry. This does not mean the expense must occur frequently, but rather that it is a normal expense for a similar business. For example, advertising for a retail store or wrenches for a plumbing company are ordinary expenses.

A necessary expense is one that is helpful and appropriate for your business. The expense does not need to be indispensable, but it should be one a business owner would reasonably expect to help the business. For instance, design software for a graphic designer or a legal research database for a law firm are considered necessary.

Analyzing Common Mixed-Use Expenses

Many expenses are not purely business or personal but a mix of both, requiring a methodical approach to determine the deductible portion. The IRS provides specific guidance for common categories where business and personal use overlap.

Home Office

To deduct expenses for a part of your home, you must meet the “exclusive and regular use” test, meaning a specific area is used solely for business on a continuing basis. An office that also serves as a guest room, for example, would not meet this test.

There are two ways to calculate the deduction. The simplified method allows a standard deduction of $5 per square foot of the home used for business, capped at 300 square feet for a maximum deduction of $1,500. The actual expense method involves calculating the percentage of your home used for business and applying it to total home costs, including mortgage interest, insurance, utilities, and repairs.

Vehicle Use

When you use your personal vehicle for business, you can deduct the costs associated with its business use. The standard mileage rate method allows you to deduct a set amount per business mile driven, which for the 2025 tax year is 70 cents per mile. This rate covers the costs of operating the car, such as gasoline, maintenance, and depreciation.

Alternatively, the actual expense method allows you to track and deduct the business-use percentage of all your car-related costs. This includes gas, oil changes, insurance, registration, and repairs.

Phone and Internet

If you use your personal cell phone or home internet for business, you can only deduct the portion of the cost that relates to your business activities. You must determine a reasonable percentage of business use and apply it to the total cost of the service. For example, if you can document that 40% of your cell phone use is for business, you can deduct 40% of your monthly bill.

Travel and Meals

For business travel that combines personal activities, you can only deduct expenses incurred during the business portion of the trip. Transportation costs to and from the destination are fully deductible if the primary purpose of the trip is business. Once there, only costs for business days, such as lodging and meals, are deductible.

The deduction for business meals is limited to 50% of the cost. This includes meals with clients or while traveling for business. To claim the deduction, the meal must not be lavish or extravagant, and the business owner or an employee must be present.

The Impact of Your Business Entity

Your business’s legal structure directly impacts how payments for personal expenses are handled. The transaction must be categorized correctly based on the business structure.

Sole Proprietorships and Single-Member LLCs

For a sole proprietorship or a single-member LLC taxed as one, when the business pays for a personal expense, the payment is classified as an “owner’s draw.” This is not a deductible business expense but is treated as a distribution of profits to the owner, reducing their equity in the company. The draw itself is not taxable income to the owner, as they are already taxed on all net profits of the business.

S-Corporations

S-Corporations have more rigid rules because the owner is also an employee. If an S-Corp pays a personal expense for a shareholder-employee, it can treat the payment as a shareholder distribution. This payment is not a deductible expense for the corporation and is tax-free to the shareholder if it does not exceed their stock basis. The other option is to classify the payment as additional compensation, making it a deductible expense for the corporation but taxable W-2 income to the shareholder.

C-Corporations

C-Corporations have several options when paying personal expenses for shareholders. The payment can be treated as a dividend, which is not a deductible expense for the corporation and is taxable income to the shareholder. Another option is to classify it as additional compensation, which is a deductible expense for the corporation but taxable income to the employee. A third possibility is to structure the payment as a formal loan, which requires a written promissory note, a reasonable interest rate, and a repayment schedule to be considered legitimate by the IRS.

Proper Accounting and Recordkeeping

Correctly handling business expenses requires meticulous documentation and precise bookkeeping. This provides the defensible proof needed during an IRS audit and ensures your financial statements are accurate.

Documentation Requirements

The IRS requires specific proof to back up any claimed business deduction. For most expenses, this means keeping dated receipts, canceled checks, or bank statements showing the amount, payee, and date. For certain expenses, the requirements are more stringent.

For vehicle expenses, a mileage log showing the date, miles, and purpose of each business trip is needed. For business meals, you must document the cost, date, location, who attended, and the business topic discussed. This documentation must be kept for at least three years from the date you file your tax return.

Bookkeeping Entries

The way a transaction is recorded depends on its tax treatment. If a sole proprietor uses business funds for a $300 personal utility bill, the entry would be a debit to Owner’s Draw and a credit to Cash. This records it as a distribution to the owner, not an expense.

If an S-Corporation pays a $1,000 personal medical bill for its shareholder and treats it as compensation, the entry would be a debit to an expense account like Officer Compensation and a credit to Cash. If treated as a distribution, the entry would be a debit to Shareholder Distributions and a credit to Cash, making it non-deductible for the corporation.