A Smart Way for S Corporations to Reimburse Business Expenses Tax-Free
Business owners often pay for work-related expenses out of their own pocket. Without the right system in place, those expenses can easily be reimbursed incorrectly or treated as taxable wages. This is where an accountable plan becomes incredibly valuable.
An accountable plan is an IRS-recognized reimbursement method that allows an S corporation to repay employees, including owner-employees, for legitimate business expenses without creating taxable income. When structured correctly, it protects the business, improves compliance, and helps owners keep more of what they earn.
Below is a clear overview of how accountable plans work, why they matter, and what your business needs to stay compliant.
What Is an Accountable Plan?
An accountable plan is a formal reimbursement policy that allows a business to reimburse employees for qualifying business expenses without including those amounts in wages. Because the reimbursements meet IRS rules, they are not subject to income tax, Social Security, Medicare, or federal unemployment tax.
For S corporations, this is especially important because owner-employees must handle expenses carefully to avoid payroll tax issues.
Why an Accountable Plan Matters
Setting up a proper reimbursement plan offers three significant advantages, such as:
1. Tax-Free Reimbursements for Owner-Employees
When reimbursements follow IRS rules, they are not treated as taxable income. They don’t appear on Form W-2, and they aren’t subject to payroll taxes.
2. Tax Deductions for the S Corporation
The S corporation deducts the reimbursed expenses as ordinary and necessary business expenses. This lowers the company’s taxable income while keeping reimbursements off payroll.
3. Better IRS Compliance
A documented, accountable plan reduces the risk of reimbursements being reclassified as taxable wages. If reimbursement practices appear too informal, the IRS may treat the payments as payroll, which may result in penalties and back taxes.
IRS Requirements for an Accountable Plan
To qualify as “accountable,” the IRS requires a plan to meet all three of the following standards, including:
1. Business Connection
The expenses must be work-related and support the business purpose of the employee’s role.
2. Adequate Substantiation
Receipts, mileage logs, invoices, and travel records usually meet this requirement. Employees must provide documentation that clearly shows:
- amount
- date
- time
- place
- business purpose
3. Return of Excess Funds
If an employee receives an advance greater than the actual expense, the extra amount must be returned within a reasonable period. The IRS typically considers 60–120 days reasonable.
Failing any of these three requirements means the plan is not considered accountable, which can turn reimbursements into taxable wages.
How to Set Up an Accountable Plan for Your S Corporation
While a written policy isn’t required, it’s strongly encouraged. A clear plan supports compliance and is very helpful during an IRS examination. Here’s how to build one that works:
1. Put the Plan in Writing
Create a simple document that outlines the following items. Also, keep a copy with your corporate records.
- purpose of the plan
- types of eligible expenses
- documentation needed
- timelines for reporting
- rules for returning excess reimbursements
2. Define Eligible Expenses
The plan should clearly describe what qualifies as reimburse expenses, such as:
- home office costs (calculated by business-use percentage)
- mileage for business driving
- cell phone and internet used for work
- meals with clients
- travel
- office supplies
- continuing education or professional development
3. Create a Consistent Reporting Process
Monthly submissions work best for compliance. Waiting until year-end can trigger IRS questions and weaken the plan’s credibility.
4. Use an Expense Report Form
A spreadsheet or accounting software template works well. Employees attach receipts or logs to each reimbursement request.
5. Pay Reimbursements the Right Way
The business should reimburse from the S corporation’s bank account. These payments must be kept separate from payroll and distributions to avoid misclassification.
6. Communicate and Update as Needed
Have employees or owner-employees sign an acknowledgment so expectations are clear. Review the plan once a year to make sure it still fits your operations.
Accountable Plans and Nonresident Aliens
Some businesses hire international taxpayers and nonresident aliens with international reimbursement arrangements. In that case, additional rules apply. This resource helps ensure payroll withholding, treaty benefits, and tax reporting stay compliant.
Why This Matters for Business Owners
Accountable plans are among the simplest ways for S corporation owners to reduce taxes while remaining fully compliant with IRS regulations. They support accurate reporting, clean documentation, and healthy financial practices. When managed correctly, these plans create a win for both the business and its employees.
If you’re unsure how to structure your own plan or want help drafting a compliant policy, reach out to us. A small amount of setup work today can prevent costly payroll issues later.