By Eric P. Rothenberg, Esq. –
The difficulty for a partner to deduct their own out-of-pocket expenses, not paid for by their partnership, was recently outlined well by the Fifth Circuit Court of Appeals in McLauchlan v. Commissioner of Internal Revenue [citation omitted and decided March 6, 2014]. These situations come up often with RE brokers, attorneys, CPAs, and other professional partnerships.
Many partnership agreements are quite specific about what expenses the partner may seek to have the partnership reimburse them. These include common costs we expect such as use of car, cell phone, meals, entertainment and continuing education. These can add up to a lot of money. But there are often even less common expenses such as contract labor [commercial RE brokers often hire financial consultants to provide reports to the buyers and can be paid a percentage of the fee, hourly, or even a flat fee and these are quite sizable].
But under the case law and this recent case, it is NOT ENOUGH to have a partnership agreement which lists what is reimbursed and assume if you spend money on your own that is business related it will be deductible by you. The court says: “Generally, a partner may not deduct the expenses of the partnership on his individual return, even if the expenses were incurred by the partner in furtherance of partnership business.” [emphasis added]. The case law states that the partnership agreement must REQUIRE you to pay those expenses. This standard is not one that most partnership agreements provide. The court concludes that the partnership agreement must provide a list of those expenses that it expects each partner to bear personally. It behooves each partnership to carefully review their written agreement and what expenses each partner is currently expending on their own as the fix for the problem seems relatively minor.