What Can Be a Business Expense: Rules, Limits, and Records

Almost any cost that is ordinary in your industry and necessary for running your operation can be a business expense for federal tax purposes. That standard comes from 26 U.S.C. § 162, and it governs everything from rent and payroll to mileage and software subscriptions.¹ The categories below cover what qualifies, what doesn’t, and the limits that most often catch business owners by surprise.

The Ordinary and Necessary Standard

Every deduction starts with the same two questions. Is the expense ordinary, meaning common in your trade or profession? And is it necessary, meaning helpful and appropriate for your business? Necessary does not mean indispensable, and ordinary does not require that every competitor pay the same cost.¹

Those two words do a lot of work. Design software for a graphic designer clears both easily. A riding lawnmower for that same designer almost certainly fails “ordinary.” The gray zone is where expenses look personal but serve the business, or serve the business but seem unreasonably expensive. The IRS and courts look at the facts of each situation, and the burden of proof falls on you.

Everyday Operating Costs

Federal regulations name several core categories of deductible costs: management expenses, labor, supplies, repairs, advertising, insurance premiums, and rent for business property.² In practice, most businesses see the same handful of line items.

Rent, Utilities, and Supplies

Rent for office space, storefronts, or warehouses is deductible in the year paid, provided the amount is reasonable and at or below market value.³ Electricity, water, heating, and internet service for those spaces qualify too. Office supplies like paper and ink cartridges are fully deductible in the year of purchase.

Wages and Benefits

Salaries and wages are usually the largest deduction any employer takes. Compensation must be reasonable in amount and paid for services actually performed.¹ The employer’s share of payroll taxes and contributions to health plans and retirement accounts on behalf of employees are also deductible. “Reasonable” gets contentious in closely held businesses where owners set their own pay, particularly in S corporations where inflated salaries reduce pass-through income.

Insurance and Professional Fees

Premiums for business insurance are deductible, including liability, property, workers’ compensation, and business interruption coverage. Fees paid to accountants, attorneys, and consultants for business work qualify, as do state and local business license fees and professional licensing costs.

Meals, Travel, and Gifts

Meals

Business meals are deductible at 50% of the cost as long as the meal is not lavish and you or an employee is present when the food is served.⁴ The temporary 100% restaurant-meal deduction expired after 2022, so the 50% limit applies for 2026.⁵ Taxes and tips count toward the deductible amount. Transportation to and from the meal does not.

Travel

Travel expenses are deductible when you travel away from your tax home overnight for business. Airfare, hotels, rental cars, and meals on the road (at the 50% rate) all qualify. The line that trips people up is commuting: driving from home to your regular workplace is a personal expense and is never deductible, no matter the distance.⁶ Driving from your office to a client meeting across town is deductible business mileage.

Gifts

Gifts to business associates are deductible up to $25 per recipient per year. Incidental costs like engraving or shipping don’t count toward the cap as long as they don’t add substantial value. Small promotional items worth $4 or less that carry your business name in permanent print are excluded from the calculation entirely.⁷

Equipment and Other Long-Term Purchases

When you buy something that will benefit your business for more than a year, such as equipment, vehicles, or building improvements, you generally cannot deduct the full cost in the year of purchase. You recover the cost through depreciation, which spreads the deduction across the asset’s useful life.⁸ Two provisions let you accelerate that write-off.

Section 179

Section 179 lets you deduct the full purchase price of qualifying equipment, vehicles, and software in the year you place it in service.⁸ For 2026, the maximum Section 179 deduction is $2,560,000. The deduction begins phasing out dollar-for-dollar once qualifying property placed in service exceeds $4,090,000, and it disappears entirely at $6,650,000 in purchases.

Bonus Depreciation

Bonus depreciation is separate from Section 179 and lets you deduct a percentage of a qualifying asset’s cost in the first year on top of any Section 179 deduction. The percentage had been phasing down, but legislation enacted in mid-2025 restored 100% bonus depreciation for qualifying property placed in service after January 19, 2025. For most businesses buying equipment in 2026, the full cost is deductible in year one. Certain property types and longer-production-period assets follow different rules, so confirm eligibility before relying on it.

Startup Costs

Costs you incur before your business opens get special treatment. Startup costs include market research, pre-launch advertising, training, and travel to line up suppliers or customers. Organizational costs cover forming the entity itself: incorporation fees, drafting bylaws or partnership agreements, and state registration.

You can deduct up to $5,000 in startup costs and a separate $5,000 in organizational costs in the year your business begins operating. Each $5,000 allowance shrinks once the respective costs exceed $50,000 and disappears entirely at $55,000. Anything beyond the immediate deduction gets amortized over 180 months, starting with the month you open for business.⁹

Deductions for the Self-Employed

If you work for yourself, two deductions replace benefits employees typically get through an employer.

Health Insurance Premiums

Self-employed individuals who aren’t eligible for subsidized coverage through a spouse’s employer plan can deduct up to 100% of premiums for medical, dental, and vision insurance covering themselves, a spouse, and dependents. The deduction is claimed on Schedule 1 of your personal return using Form 7206, not on Schedule C.¹⁰ The deduction cannot exceed your net self-employment income for the year.

Retirement Contributions

Contributions to a SEP-IRA, SIMPLE IRA, or solo 401(k) are deductible. For 2026, the SEP-IRA limit is the lesser of 25% of compensation or $72,000.¹¹ A solo 401(k) allows up to $24,500 in employee deferrals plus employer profit-sharing, for a combined maximum of $72,000. These plans reduce taxable income while building retirement savings, and they’re one of the most overlooked deductions for newer business owners.

Mixed-Use Expenses: Home Office and Vehicle

When something serves both business and personal purposes, only the business portion is deductible. That applies to vehicles, phones, internet service, and workspace. The IRS expects the business percentage to be calculated from actual usage and backed by records.⁸

Home Office

To claim a home office, you must use a specific area of your home exclusively and regularly as your principal place of business, or as a place where you regularly meet clients. Exclusive use is strict. A space that doubles as a guest room or a play area doesn’t qualify. Narrow exceptions exist for daycare facilities and inventory storage.¹² The deduction is available to self-employed people. Employees working from home generally cannot claim it under current law.

There are two calculation methods. The regular method requires you to figure actual home expenses (mortgage interest, insurance, utilities, repairs, depreciation) and allocate them by the percentage of your home used for business. The simplified method skips the math and gives you $5 per square foot up to 300 square feet, for a top deduction of $1,500 per year.¹³ The simplified method is easier to document; the regular method often produces a larger deduction when home expenses are high.

Vehicle

For vehicles used partly for business, allocate by mileage: business miles divided by total miles gives the business-use percentage.⁸ You can then deduct actual expenses (gas, insurance, repairs, depreciation) at that percentage, or use the standard mileage rate. For 2026, the standard mileage rate for business use is 72.5 cents per mile.¹⁴ If you own the vehicle and want to use the standard mileage rate, you must elect it the first year the vehicle is available for business. For leased vehicles, the standard mileage rate must be used for the full lease period once chosen.

What You Cannot Deduct

Knowing what fails the test matters as much as knowing what passes. These categories cause most audit adjustments.

Client entertainment (sporting events, concerts, golf outings, and similar activities) is not deductible at all. This changed in 2018. Food and beverages at an entertainment event remain deductible only if billed separately from the entertainment.⁴
Fines and penalties paid to a government for violating a law are not deductible. Parking tickets, OSHA fines, environmental penalties, and regulatory sanctions all fall in this bucket.
Personal expenses like groceries, everyday clothing, and household costs unrelated to business are never deductible. Clothing is deductible only if required for work and unsuitable for everyday wear, such as a hard hat or a lab coat. A business suit fails that test.
Commuting between home and your regular workplace is personal, no matter how far you drive.
Political contributions and most lobbying costs are not deductible.

The Hobby Loss Trap

An activity that consistently loses money can be reclassified as a hobby, and hobby expenses cannot offset other income like wages or investments. The general safe harbor is that an activity is presumed to be a business if it turns a profit in at least three of the last five tax years.¹⁵

Vehicle expenses require a mileage log with the date, destination, business purpose, and miles for each trip. Travel and gift expenses follow the documentation rules in Publication 463.⁶ The most common reason deductions get disallowed in audits is missing contemporaneous records. Reconstructing expenses from memory months later is far weaker than logging them as they happen.

Retention periods vary. The standard is three years from the date you file. If you underreport income by more than 25%, the IRS has six years. Worthless securities or bad-debt claims require seven years. Employment tax records must be kept for at least four years after filing the fourth-quarter return for the year.¹⁶¹⁷

What Happens If You Get It Wrong

Claiming a deduction you aren’t entitled to doesn’t just mean losing the deduction. If it causes you to understate tax, the IRS can add a 20% accuracy-related penalty on the underpayment. That penalty applies to underpayments caused by negligence, disregard of rules, or a substantial understatement of income tax, and it doubles to 40% for gross valuation misstatements.¹⁸

Willful tax evasion is a separate matter. Under 26 U.S.C. § 7201, deliberately attempting to evade tax is a felony carrying fines up to $100,000 for individuals ($500,000 for corporations) and up to five years in prison.¹⁹ The line between a careless mistake and criminal conduct is intent, but sloppy records make honest errors harder to demonstrate. Organized, contemporaneous documentation is the simplest protection against both civil penalties and criminal exposure.

1
Office of the Law Revision Counsel. 26 USC 162 – Trade or Business Expenses
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eCFR. 26 CFR 1.162-1 – Business Expenses
3
Internal Revenue Service. Small Business Rent Expenses May Be Tax Deductible
4
Office of the Law Revision Counsel. 26 USC 274 – Disallowance of Certain Entertainment, Etc., Expenses
5
Internal Revenue Service. Here’s What Businesses Need to Know About the Enhanced Business Meal Deduction
6
Internal Revenue Service. Publication 463 (2025), Travel, Gift, and Car Expenses
7
Internal Revenue Service. Income and Expenses 8
8
Internal Revenue Service. Publication 946 (2024), How To Depreciate Property
9
Office of the Law Revision Counsel. 26 USC 195 – Start-up Expenditures
10
Internal Revenue Service. About Form 7206, Self-Employed Health Insurance Deduction
11
Internal Revenue Service. SEP Contribution Limits (Including Grandfathered SARSEPs)
12
Internal Revenue Service. Publication 587 (2025), Business Use of Your Home
13
Internal Revenue Service. Simplified Option for Home Office Deduction
14
Internal Revenue Service. IRS Sets 2026 Business Standard Mileage Rate at 72.5 Cents Per Mile, Up 2.5 Cents
15
Internal Revenue Service. Publication 583 (12/2024), Starting a Business and Keeping Records
17
Internal Revenue Service. Employment Tax Recordkeeping
18
Office of the Law Revision Counsel. 26 USC 6662 – Imposition of Accuracy-Related Penalty on Underpayments
19
Office of the Law Revision Counsel. 26 USC 7201 – Attempt to Evade or Defeat Tax