Non-deductible business expenses: Definition and examples

Every dollar you can’t deduct from your business taxes directly affects your bottom line. Non-deductible business expenses are costs the IRS does not allow you to subtract from taxable income, which means you pay tax on money you have already spent.

Operating expenses are not a marginal concern for most businesses. For U.S. companies rated BBB- or higher, operating expenses accounted for a median 83.7% of total revenue in Q4 2023. This underscores how closely cost control is tied to profitability, even for financially stable firms.

What are non-deductible business expenses?

Non-deductible business expenses are costs a business incurs that cannot be subtracted from taxable income because they are personal, prohibited by law, or do not meet IRS requirements for business deductions.

While these expenses may be part of operating a company, the IRS does not allow them to reduce your tax liability. Most non-deductible expenses fall into this category because they either serve a personal purpose, violate public policy, or relate to long-term assets that must be capitalized rather than deducted in the current year.

To determine whether an expense is deductible, the IRS applies the “ordinary and necessary” standard:

• An expense is ordinary if it is common and accepted in your trade or industry.
• An expense is necessary if it is helpful and appropriate for running your business.

Expenses that fail this test, or that fall into specific restricted categories, are treated as non-deductible even if they feel business-related in practice.

Deductible vs. non-deductible expenses: Understanding the difference

The difference between deductible and non-deductible expenses directly affects how much tax your business pays. Only expenses that meet IRS requirements can reduce your taxable income.

This distinction matters because operating costs make up a significant share of business spending. For many small businesses, operating expenses account for roughly 30% to 60% of total revenue, meaning non-deductible expenses reduce after-tax cash flow rather than offsetting income.

An expense is deductible only if it serves a clear business purpose, meets the IRS “ordinary and necessary” standard, and complies with specific tax rules.

How to determine whether an expense is deductible

When you are unsure whether an expense qualifies for a deduction, it helps to evaluate it against a consistent set of criteria. Walking through the same checks each time reduces misclassification and makes your tax reporting easier to defend.

1. Apply the “ordinary and necessary” test: Ask whether the expense is common in your industry and helpful for running your business
2. Verify the business purpose: The cost must directly support business activity. Personal expenses, even if incurred during work-related travel or events, do not qualify.
3. Check for specific IRS restrictions: Certain categories, such as entertainment, political contributions, and government fines, are explicitly non-deductible
4. Confirm you have proper documentation: Receipts should show the amount, date, place, and business purpose of the expense. For meals, you also need to document who attended and the business context.
5. Watch for red flags: Expenses that primarily benefit you personally, involve illegal activity, or represent capital improvements rather than routine repairs are commonly disallowed

Complete list of non-deductible business expenses

This section covers the most common categories of non-deductible expenses businesses encounter. While the details can vary by situation, these categories reflect how the IRS consistently treats costs that do not qualify for business deductions.

Personal and living expenses

The IRS draws a clear line between personal and business expenses and costs. Expenses that primarily support your personal life remain non-deductible, even if they indirectly relate to work.

• Commuting costs from home to your regular workplace
• Everyday meals eaten alone during normal work hours
• Personal clothing and grooming unless it is a required uniform
• Mortgage, rent, and utilities for your entire home, aside from any qualifying home office portion
• Household costs such as groceries or personal insurance

Fines, penalties, and legal violations

The IRS does not allow deductions for expenses tied to breaking the law or failing to meet regulatory requirements. These payments are treated as penalties, not business costs.

This includes government fines, parking tickets, late tax payment penalties, bribes, and kickbacks.

Political contributions and lobbying

Political activity falls outside the scope of deductible business expenses, regardless of whether it could benefit your company.

• Donations to political candidates, parties, or political action committees
• Expenses incurred to influence legislation through lobbying
• Costs associated with grassroots political advocacy

Entertainment and recreation

Most entertainment expenses became non-deductible after the 2017 Tax Cuts and Jobs Act, even when business discussions take place.

• Client entertainment such as sporting events, concerts, or golf outings
• Tickets to professional or amateur athletic competitions
• Memberships to country clubs, golf clubs, or social clubs

Capital expenses and improvements

Purchases or projects that add value to property or extend its useful life must be capitalized and recovered over time through depreciation, rather than deducted in the year they occur:

Other capital expenses include land purchases, building acquisitions, and startup costs over $5,000, which must be amortized.

Other common non-deductible expenses

Some expenses are non-deductible because of specific IRS limitations or ownership rules:

Common gray areas and misconceptions

Some expenses are frequently misclassified because their deductibility depends on how, and how often, they are used. These gray areas are common sources of errors during tax filing and audits.

Home office deductions

• The rule: Home office expenses are deductible only if a specific area of your home is used exclusively and regularly as your principal place of business
• The reality: The exclusive-use requirement is strict. A space that also serves as a guest room, dining area, or shared workspace generally does not qualify. W-2 employees can no longer claim a home office deduction.

Vehicle and transportation expenses

• The rule: Commuting from home to your regular workplace is non-deductible, while travel between business locations or to client meetings is deductible
• The reality: You must keep a detailed, contemporaneous mileage log to support your deduction. You can use the standard mileage rate or track actual vehicle expenses, but estimates or reconstructed logs are common audit red flags.

Meals and entertainment

• The rule: Business meals with clients or employees are generally 50% deductible, while entertainment expenses are fully non-deductible
• The reality: The meal must not be lavish, and you or an employee must be present. If food is purchased as part of an entertainment event, only the separately itemized meal portion may qualify for a partial deduction.

Mixed-use expense allocation

• The rule: When an asset is used for both business and personal purposes, only the business-use portion is deductible
• The reality: You need clear records to support how you calculated the business-use percentage. Rough estimates or assumptions are frequently challenged by the IRS.

The real cost of misclassifying expenses

Claiming non-deductible expenses triggers serious financial consequences that go far beyond simply paying back taxes:

• Accuracy-related penalties: The IRS can impose a 20% penalty on the portion of tax you underpaid due to improperly claimed deductions
• Interest charges: Interest compounds daily on the underpaid amount from the original due date of your return. With rates around 7–8%, this adds up quickly.
• Increased audit risk: The IRS uses algorithms to flag returns with unusual deduction patterns. One mistake can lead to years of heightened scrutiny.
• Fraud penalties: Intentionally misclassifying expenses can trigger fraud penalties of up to 75% of the underpayment

How to properly track and manage non-deductible expenses

A consistent approach to expense tracking reduces misclassification and makes your tax reporting easier to support if questions arise. The goal is not just accurate categorization, but preventing non-deductible expenses from slipping through in the first place.

Implement clear documentation practices

Strong documentation is essential if the IRS reviews your return. Each expense record should include:

• Receipts or invoices showing the amount, date, and vendor
• A clear note explaining the business purpose
• For meals, the names and business relationships of attendees
• A contemporaneous mileage log for vehicle-related expenses

Separate business and personal spending

Mixing personal and business transactions makes it harder to identify non-deductible expenses and increases audit risk.

• Use dedicated business bank accounts and credit cards
• Avoid reimbursing personal purchases through business accounts
• Create a separate non-deductible expense category in your accounting system

Use technology to prevent errors

Modern expense management tools can reduce manual review and catch issues early. Automated systems can flag potentially non-deductible expenses, enforce spending policies at the point of purchase, and generate audit-ready records.

Ramp’s platform builds these controls into the spending workflow, helping teams identify non-deductible expenses before they reach the general ledger.

Train employees and enforce policies

Clear guidance helps employees make better spending decisions.

• Document what is and is not reimbursable
• Share examples of common non-deductible expenses
• Use approval workflows for higher-risk or unusual transactions

When to consult a tax professional

Expense management systems can handle most day-to-day categorization, but some situations call for professional judgment. A CPA or tax advisor can help when the tax treatment of an expense has long-term or high-risk implications.

• Complex business structures involving multiple entities or international operations
• Significant mixed-use expenses that require detailed allocation
• Large capital purchases that affect depreciation schedules
• IRS notices, correspondence, or audit activity
• Business changes such as mergers, acquisitions, or entity restructures

How Ramp prevents non-deductible expense mistakes before they happen

Misclassifying business expenses can trigger IRS penalties, increase your tax burden, and create hours of cleanup work during audit season. The challenge isn't just knowing which expenses qualify for deductions; it's catching mistakes in real time when employees submit expenses that blur the line between personal and business use.

Ramp's expense management platform tackles this problem head-on with automated controls that flag questionable expenses before they hit your books. When an employee submits a receipt, Ramp's AI-powered system instantly categorizes the expense and checks it against IRS guidelines.

For instance, if someone tries to expense a gym membership or country club dues—classic non-deductible items that often slip through—the system automatically flags these for review. You can set up custom rules that require additional documentation for entertainment expenses over 50% deductible or block certain merchant categories entirely.

The platform's real-time receipt matching goes beyond simple categorization. Ramp extracts merchant details, itemized purchases, and expense context to help you make informed deductibility decisions. When an employee submits a restaurant receipt, Ramp can identify whether alcohol was included (subject to different deductibility rules) and calculate the deductible portion automatically. This granular visibility eliminates the guesswork that leads to costly mistakes.

Perhaps most valuable is Ramp's expense policy enforcement engine. You can codify your company's expense policies—including deductibility guidelines—directly into the platform. Employees see these policies when submitting expenses, and non-compliant purchases get blocked at the point of sale.

This proactive approach means you're not hunting down non-deductible expenses months later during tax prep. Instead, you're preventing them from entering your financial system in the first place, saving your team countless hours and protecting your business from unnecessary tax exposure.

Modernize your business expense tracking

Ramp's modern finance operations platform eliminates the need for multiple tools. Track your company’s spending, scan and save receipts, generate reports, and run projections all from a single system designed to help you run your business more efficiently.

Businesses that use Ramp save time and money. Watch a demo video and learn why over 50,000 businesses have saved more than $10 billion and 27.5 million hours with Ramp.