Deductibility of Work-Related Educational Expenses
The effects of the Great Recession are still being felt in high unemployment rates and other symptoms in the U.S. job market. The Business Roundtable reported in late 2009 that even as employment shrank, 60% of employers said they had trouble finding qualified applicants for the vacancies they had. Eighty-one percent of workers said they were interested in obtaining more job-related education or training (Getting Ahead—Staying Ahead, The Springboard Project, tinyurl.com/32f3n83).
Thus, more workers than before are likely to go back to school to improve their chances of getting or keeping a job. In some situations, education-related transportation or travel can be deducted as a business-related or unreimbursed employee expense, but the rules can be perplexing for taxpayers, who must substantiate such costs with clear, contemporaneous records. Fortunately, CPA tax practitioners can stand ready to help clients make such transitions and maximize their deductions without running afoul of the rules.
Some educational expenses such as tuition may qualify for the American opportunity credit, Hope scholarship credit, lifetime learning credit and the tuition and fees deduction, but transportation expenses and room and board are not considered qualified expenses for these purposes. Taxpayers should compare the tax benefits of the different credits and deductions available for educational expenses. It is possible that a combination of different credits and deductions for different educational expenses may render the best tax result for the taxpayer.
IRC § 162 and Treas. Reg. § 1.162-5(e) provide that if an education expense, including an expense for travel away from home, is deductible as an ordinary and necessary business expense, it may be deductible.
MAINTENANCE OR IMPROVEMENT OF SKILLS
Treas. Reg. § 1.162-5(a) provides that to be deductible, expenses must be for education that maintains or improves the taxpayer’s skills or that meets legal or employer requirements for the taxpayer to maintain his or her employment, status or pay level. Nondeductible expenses include those for education to meet an employer’s minimum requirements for a position or those that qualify the taxpayer for a new trade or business. Taxpayers must be prepared to substantiate in detail a direct relationship between the expense and the taxpayer’s business or employment. This determination will depend on the specific facts of each case, and the taxpayer will bear the burden of proof.
Whether such educational expense is “necessary” under section 162(a)’s “ordinary and necessary” language and “required” in the sense of Treas. Reg. § 1.162-5(a)—that it maintains or improves required skills or requirements set by an employer or law or regulation to maintain employment, pay or status in a job or business—has sometimes been defined as education that is “appropriate or helpful” in meeting such requirements and conditions. For example, in Katz v. Commissioner (TC Memo 1968-16) an auditor in an accounting firm was not permitted to deduct expenses for private flying lessons, even though he was required to travel for work and his employer reimbursed employees for such travel. Flying was not “appropriate or helpful in the taxpayer’s business,” the Tax Court said. To be ordinary and necessary, expenses must also be reasonable in amount—neither uncommon nor extravagant.
However, taxpayers have prevailed in some cases with respect to travel expenses related to education when they proved that the education was directly related to their employment. For example, in Jorgensen v. Commissioner (TC Memo 2000- 138) a high school English teacher and chair of her high school English department was permitted to deduct expenses, including her airfare, tuition, books, meals, lodging, and shuttle expenses, for college courses that included travel to Greece and Southeast Asia. The teacher provided evidence of incorporation of the information into her high school curriculum; enhancement of her relationships with her high school’s diverse, primarily Asian, student body; and improvement of her teaching skills. In Balla v. Commissioner (TC Memo 2008-18) a merchant sailor and engineer was permitted to deduct travel expenses for firefighting school paid for by his professional union, because firefighting was related to his job.
NEW TRADE OR BUSINESS OR MINIMUM EDUCATIONAL REQUIREMENTS
Treas. Reg. §§ 1.162-5(b)(2) and (3) provide that if the education qualifies the taxpayer for a new trade or business or if it meets the minimum entry-level educational requirements for the taxpayer’s job, then the travel expenses are not deductible. The test for whether the education qualifies a taxpayer for a new trade or business is objective, and “it depends neither on the taxpayer’s reasons for undertaking a course of studies nor on what she intends to do (or not do) with her newly acquired knowledge” (Zeidler v. Commissioner, 132 F.3d 37 (7th Cir. 1997)). This test will turn on the specific facts of a case. For example, in Allemeier v. Commissioner (TC Memo 2005-207) a taxpayer was permitted to deduct education expenses for an MBA program encouraged but not required by his employer, because the MBA “enhanced and maintained skills he already used in his job.” The taxpayer in Allemeier was involved in finance, management and marketing in his employer’s business both before and after he earned his MBA.
However, the taxpayer in Zeidler was a stenographer with a high school education who obtained a bachelor’s degree in professional communications with a minor in business management. She was not entitled to deduct her education expenses, because the education was held to qualify her for a different trade or business. Likewise, in Thompson v. Commissioner (TC Memo 2007-174) an aeronautical engineer who took flight lessons that allowed him to obtain his commercial pilot’s license was not entitled to deduct expenses to attend the flight school, even though he did not intend to work as a commercial pilot and attendance in the flight school improved his knowledge of aeronautical engineering.
If such education qualifies taxpayers for a new trade or business, it generally will be held a nondeductible personal expense even if taxpayers undertook it to enhance their qualifications in their current trade or business. On this basis, the IRS and the courts have routinely held that expenses to earn a law degree not required by an employer are nondeductible. See, for example, Weiszmann v. Commissioner, 52 TC 1106, aff’d, 9th Cir. 1971), also Treas. Reg. § 1.162-5(b)(3)(ii), examples 1 and 2. Similarly, an MBA degree typically is regarded as leading to a new trade or business for employees not already in management. Neither an Air Force sergeant who handled routine recordkeeping nor an electrical engineer was permitted to deduct the cost of courses for an MBA degree, because their job duties were not sufficiently related to the MBA courses (Heffernan v. Commissioner, TC Memo 1979-363; McIlvoy v. Commissioner, TC Memo 1979- 248).
In the field of education, Treas. Reg. § 1.162-5(b)(3)(i) specifies that certain job transitions, including classroom teacher to principal, are not to a new trade or business. Although the regulations indicate that “teacher” is a broadly defined trade or business, the cases illustrate some limits on what is acceptable. For example, a teaching assistant working under the supervision of a licensed teacher while taking college courses cannot deduct transportation expenses incurred to obtain a bachelor of arts degree in education and become a fully certified teacher (Baist v. Commissioner, TC Memo 1988-554).
Education expenses in preparation for entering a new business prior to the “functioning” of the business are not deductible. For example, expenses for training and workshops about real estate attended prior to the purchase of the first property by a real estate investor were not deductible because the taxpayer was not yet “actively engaged” in the real estate investment business (Woody v. Commissioner, TC Memo 2009-93).
TRAVEL AND PERSONAL EXPENSES
Expenses of travel that includes educational activities but is primarily for personal reasons are not deductible, except for any portion of the expenses incurred during time spent on deductible educational activities. Likewise, expenses for travel as a form of education are not deductible. Although earlier regulations permitted a deduction for travel as a form of education as long as the travel was directly related to the taxpayer’s work, IRC § 274(m)(2) now specifically prohibits this deduction. The determination of whether travel is nondeductible as a form of education may turn on the facts of the case. For example, a French teacher who travels to France to improve French language skills through exposure to movies, plays, schools and families cannot deduct her travel expenses as educational travel. Although this travel may be helpful to the teacher, its relationship to her work skills is not direct enough to be deductible (IRS Publication 970, Tax Benefits for Education (2009)).
Although a taxpayer may “gain insights” that help the taxpayer in a job, the taxpayer must establish “a direct relationship between her travels and the specific skills required” in her job, or that the employer required the travel (Garcia v. Commissioner, TC Summary Opinion 2005-2). Taxpayers may not deduct the cost of a vacation with educational aspects (Keller v. Commissioner, TC Memo 1996-300). However, travel for the purpose of taking courses for college credit, involving syllabuses and reading, rather than being mere tours, may be deductible in some circumstances (see Jorgensen v. Commissioner, cited earlier).
Travel is not deductible unless it bears a more “certain and direct” relationship to the taxpayer’s employment and the activities are different from those reasonably expected on a “sightseeing trip abroad” (Adelson v. U.S., 342 F.2d 332 (9th Cir. 1965); Dennehy v. Commissioner, 309 F.2d 149 (6th Cir. 1962)). For example, in Takahashi v. Commissioner (87 TC 126 (1986)) science teachers were not permitted to deduct travel expenses in connection with a seminar in Hawaii titled “The Hawaiian Cultural Transition in a Diverse Society” because they did not convince the Tax Court that the cultural seminar was sufficiently related to the taxpayers’ jobs as science teachers. Also, in Joseph v. Commissioner (TC Memo 2005-169) the Tax Court agreed with the IRS position that a high school English teacher was not entitled to deduct expenses for attending summer English literature classes in England because the teacher did not provide sufficient proof to convince the Tax Court that the classes in England had a “direct and proximate relationship” to maintenance or improvement of his skills as a high school English teacher.
If a taxpayer is not currently employed, the travel expenses for purposes of education may not be deductible as ordinary and necessary business expenses, unless the taxpayer’s absence from work is temporary (Evan v. Commissioner, TC Memo 2004-180). The IRS position is that any absence from work for more than one year is indefinite and not temporary (Publication 970 (2009)).
FOREIGN TRAVEL AND CRUISES
If the travel is outside the United States or by cruise ship, limitations on the amount of the deduction for certain foreign travel expenses may apply. Section 274(c) provides that no section 162 deduction is allowed for the portion of the expense for travel outside the United States that is not allocable to the taxpayer’s business. However, this limitation does not apply to travel that lasts one week or less, or if the portion of the total travel time not allocable to business is less than 25% (section 274(c)(2)).
In addition, if the travel is to a convention or seminar outside the North American area, the travel is scrutinized more carefully. For example, no deduction is allowed for such travel outside the North American area for a convention or seminar unless the taxpayer proves that it is as reasonable for the meeting to be held outside the North American area as within it (section 274(h)). If the travel is on an ocean liner, cruise ship or other form of luxury water transportation or to certain Caribbean countries, additional special reporting requirements and limitations apply.
TRAVEL AWAY FROM HOME
If the travel away from home is lengthy enough to require sleep or rest, then transportation, meals (subject to limits) and lodging may be deductible. If the travel does not require a stay for sleep or rest away from the taxpayer’s tax home, the taxpayer cannot deduct expenses such as meals and lodging (see IRS Publication 463, Travel, Entertainment, Gift, and Car Expenses (2009); United States v. Correll, 389 U.S. 299 (1967)). For more on “away from home” and other business-related travel issues, see “Tax Practice Corner: Displaced Workers and Deduction for Travel Expenses,” page 54 in this issue.
SUBSTANTIATION
Educational expense deduction cases are often won or lost based upon substantiation of the deductible expenses. As well as losing the benefit of the expense deductions, some taxpayers may also incur accuracy-related penalties under section 6662 relating to the disallowed deductions. The taxpayer bears the burden of properly substantiating the amount, time, place and business purpose of any travel.
Taxpayers should keep a diary or log of expenses, together with supporting documentary evidence, such as receipts, canceled checks, statements and similar records. The diary should indicate the dates the taxpayer left and returned on each trip for further education, the number of days or amount of time spent on education during each trip, the destination of the trip and the business purpose. Generally, the IRS looks more favorably upon records created and obtained at or near the time of the travel, instead of self-serving records or those created in hindsight many months or years after the travel occurred. Taxpayers should keep records of the cost of each separate expense for travel, lodging, transportation and meals. In addition, for automobile expenses, the taxpayer should keep a record of the cost of the car and improvements, the date the taxpayer started using it for business, a mileage log, the mileage for each business use, total miles for the year, the date of the expense and the date of the use of the car (section 274(d); IRS Publication 463 (2009)).
If a taxpayer is entitled to reimbursement from his or her employer for educational expenses and does not claim reimbursement, the taxpayer cannot deduct the expenses. Therefore, if a taxpayer is currently employed and the employer maintains a reimbursement plan, the taxpayer should request reimbursement of the travel expenses in writing even if the taxpayer is certain that the employer will not pay these expenses. The taxpayer should obtain any denial of reimbursement in writing from the employer.
For an assessment tool to help determine deductibility of education-related travel, click here (PDF).
EXECUTIVE SUMMARY
Patricia Q. Robertson (probertson@astate.edu) is an associate professor of business law, and W. Terry Dancer (dancer@astate.edu) is a professor of accounting, both at Arkansas State University, Jonesboro, Ark.
To comment on this article or to suggest an idea for another article, contact Paul Bonner, senior editor, at pbonner@aicpa.org or 919-402-4434.
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Article
“Tax Benefits for Education,” The Tax Adviser, July 2010, page 464
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