New cell phones aren’t cheap. Neither are the monthly bills, particularly when data usage is high. Using your personal cell phone for business purposes may entitle you to a tax deduction, but calculating it can be complex. This article will help you navigate those complexities to get the largest deduction possible. Some key takeaways to look for include:
- Section 162 is the part of the Internal Revenue Tax Code that allows businesses to deduct “ordinary and necessary” expenses.
- Employers can deduct the full cost of business cell phones given to employees, but they must properly account for these expenses.
- Antivirus, MDM software, encrypted communications, and secure cloud storage all qualify as deductible business expenses with proper documentation.
First, we need to understand the business deductions under Section 162.
Section 162 is the part of the Internal Revenue Tax Code that allows businesses to deduct “ordinary and necessary” expenses.
\For cell phones to qualify, they must be common in your industry (ordinary) and appropriate for your business (necessary). As an individual business owner, you can take a deduction based on “use” or “value.” Here’s what that looks like:
It’s relatively easy to designate the “business use” of a cellphone or device.
Your talk and data usage are itemized on your phone bill. The portion relative to your business is “business use.”
That’s the deductible part.
The purchase cost of a new cell phone is fully tax-deductible, regardless of whether it is used for business or personal purposes.
The challenge with this is identifying and proving business necessity. For instance, if a vendor is also a friend, how are calls classified as business calls? The Internal Revenue Service (IRS) scrutinizes these matters closely, so be sure to carefully document the reason for each contact.
Any entry on your ledger that lacks an explanation could be denied during an audit; this is a common mistake among small businesses, and it can be easily avoided with proper documentation and accounting controls.
What about accounting for data usage?
Data usage is even more complex. Many businesses use live video feeds for training and product demonstrations. Individuals use similar feeds for entertainment. Separating them for tax purposes can be difficult if you don’t carefully track data usage. Simply “guessing” which percentage of that use is business-related could get you in trouble at tax time.
Let’s break down deductions for employer-provided cell phones.
Providing cell phones to your employees can also generate a tax deduction. Under Section 162, employers can deduct the full cost of those cell phones, but they must properly account for these expenses to avoid triggering additional tax consequences for employees. For the employer, the phones count as “fringe benefits.” There are two types:
1. Working Condition Fringe Benefits
Employers can provide cell phones to employees without the value being included in the employee’s taxable income, provided the phone’s business use exceeds its personal use. This is difficult to track, so make it clear to the recipient when the phone is given.
2. De Minimis Fringe Benefits
The IRS recognizes that some personal use is inevitable and doesn’t require employers to track every personal call or text. De minimis rules cover small personal use of business phones, but they don’t cover situations where personal use is substantial.
What are the accounting and documentation requirements?
The IRS requires specific documentation for employer-provided phones. That includes:
- Maintaining records showing the business necessity for each device
- Documenting which employees receive phones and why
- Tracking usage patterns to support business-purpose claims
- Establishing written policies for personal use limits
These rules apply to the newest devices, but that doesn’t mean you need to buy new iPhones for all your employees. Spending $1,200 for a manager’s phone is one thing. Giving out twenty of those to cover all employees could create cash flow problems.
Loss prevention and security should be part of the conversation.
Company cell phones issued to employees remain the property of the company. That means the loss of one of those phones could incur a significant expense. It could happen when an employee misplaces it, has it stolen, or steals it upon leaving the company. Consider requiring employees to sign liability agreements to account for this.
Cybersecurity is a significant concern.
Employees may be accessing proprietary or secure information that you don’t want others to obtain. Thankfully, antivirus, mobile device management (MDM) software, encrypted communications, and secure cloud storage all qualify as deductible business expenses when properly documented.
There are different deduction rules for different business structures.
The way your business is structured impacts how you deduct cell phone expenses. The rules differ slightly between sole proprietorships, partnerships, LLCs, and S-Corps:
- Sole Proprietorships: The rules for a sole proprietor are fairly simple. You can deduct the cost of the phone, accessories, and business usage costs.
- Partnerships and LLCs: The rules are the same as those for a sole proprietor, but the benefits of the deduction are also reflected in the profit shares of shareholders and partners.
- S Corporations: The S Corp must either provide phones as a working condition fringe benefit or reimburse employees for business use under an accountable plan.
Recent tax law changes prohibit shareholder-employees from deducting unreimbursed business expenses on their personal returns. Call my office to discuss this.
What about deductions for cutting-edge cellular and phone technologies?
Today’s business technology extends far beyond basic cell phones. Smartwatches, tablets with cellular connections, mobile hotspots, and even augmented reality devices can qualify for business deductions when they serve legitimate business purposes.
- Apple Watches and fitness trackers may seem like luxury items, but they can qualify as business expenses for certain professionals. For example, a surgeon who uses an Apple Watch to monitor patient data or a fitness trainer who tracks client progress could legitimately claim these as business expenses.
- Smart Glasses and Translation Devices represent emerging technology with clear business applications. International businesses that use real-time translation tools or construction companies that utilize AR glasses for project visualization have strong cases for business deductions.
- Mobile Hotspots and Data Plans often qualify more easily than traditional phones because they’re typically used exclusively for business internet access. However, the same business necessity standards apply.
Maintain accurate documentation and record-keeping practices.
Successful cell phone deductions require meticulous documentation. It’s best to establish processes for this before purchasing company cell phones. Here’s what to concentrate on:
- Business justification for each device
- Percentage of business vs. personal use
- Monthly service costs and usage patterns
- Device purchases, accessories, and repairs
- Written policies governing employee use
You and your employees can keep paper logbooks and receipts if you want to, but there’s accounting software that can make the process much simpler. Using devices dedicated solely to business use is the ideal solution, but that’s not always possible.
To avoid compliance issues, use basic common sense.
It’s essential to exercise common sense when calculating business deductions, as unrealistic expenses may be flagged by the IRS. Ask yourself some hard questions:
- Does your business truly require the premium features of high-end devices?
- Can you document and justify the expense as a business necessity?
- Are you prepared to maintain detailed records of usage?
- Does the expense make sense relative to your business income?
If the expense is at all questionable, don’t attempt to deduct it. For instance, a freelance writer making $15,000 a year shouldn’t try to claim a $2,000 cell phone deduction, especially if they get most of their work through online freelancer sites.
Implement strategic planning to maximize benefits.
Purchasing a business cell phone should be treated like any other business expense. Weigh the financial consequences carefully, evaluate your needs for the device, and look at the tax implications. Here are a few tips to help you make a good decision:
Make big technology purchases when you’re profitable.
It’s best to upgrade devices when your company is having a profitable year. The deduction will be more beneficial that way because it lowers more taxable income. Lean years, or years when you take a loss, are not good times to spend.
Keep business and personal lines separate.
It may seem cost-prohibitive at first glance, but in the long run, it will benefit your company. Purchase separate devices with dedicated business lines. It will simplify documentation, and over the course of a few years, the change will pay for itself.
Now, if you can prove that a phone is used explicitly for business, is completely separate from personal communications, and demonstrate that your personal phone use is 100% personal. You have a chance to utilize the OBBBA’s new 100% depreciation rules for same-year write-offs on your device.
Compare reimbursement plans to employee deductions.
Reimbursement plans may be more tax-efficient, especially for S Corp shareholder-employees who can’t deduct unreimbursed business expenses.
Take advantage of deductions now.
Remember that the goal isn’t to maximize deductions at any cost—it’s to optimize your business’s financial position while staying compliant with tax requirements. This can get complicated. We’ll review your specific situation and help you develop a strategy that maximizes legitimate deductions while minimizing audit risk.
Schedule a discovery call today.
Talk soon,
Jeremy A. Johnson, CPA