Publication Date

Spring 4-15-2013


With respect to business expenses, it was not practicable to enact individual Code sections for the innumerable types of expenditures that businesses might incur. Consequently, the Code contains a generic provision, Section 162, which allows as a deduction “all the ordinary and necessary expenses paid or incurred in carrying on any trade or business.” The section contains a reasonableness standard for compensation and disallows travel expenses that are “lavish or extravagant.” There are also public policy considerations. No deduction is permitted for fines and penalties. Nor is a deduction allowed for illegal bribes, kickbacks and certain other payments.

A frequently recurring adversarial issue is whether an activity in which a taxpayer is engaged constitutes a “trade or business,” which impliedly requires a profit motive. If the activity is not engaged in for profit, no deductions attributable to the activity are allowed, except to the extent gross income derived from the activity exceeds deductions that are allowable otherwise. Moreover, deductions to the extent of gross income are allowed only if the taxpayer itemizes deductions. Even then, the amount deductible would be reduced by 2% of adjusted gross income.

Where non-business expenditures exceed gross income, or where there is none, such expenditures are considered of a personal nature and are not deductible unless there is a provision expressly providing otherwise. Although business expenditures of a capital nature must be capitalized, the expenditure may be recoverable through depreciation or amortization deductions.