All businesses spend on products and services to support operations, such as paying for consulting services, purchasing raw materials to manufacture goods, or buying new office furniture.
However, not all business-related spending will be planned out in advance and made with the company card. Some purchases will occur on the fly by employees as they’re on the job site completing work for clients or traveling to meet with prospective buyers.
In these cases, employees aren’t just expected to make company purchases on their dime. They expect to be promptly and fully reimbursed for qualifying expenses by their employer.
This might sound easy enough, but in practice, companies must ensure they have the proper policies and procedures to manage out-of-pocket employee expenses and prevent fraudulent spending.
In this guide, we’ll discuss how to streamline the expense reimbursement process and reduce errors to ensure accurate financial reporting and compliance with relevant IRS regulations and labor laws.
What is expense reimbursement?
An expense reimbursement occurs when an employer pays back employees for any business-related expenses they cover out-of-pocket.
This is necessary when employees aren’t given a business card or per diem and must use their own money to pay for products or services to support business operations.
If a sales representative travels to meet with potential clients or an administrator purchases office supplies, the company may reimburse them for the business-related expenses they paid for.
Formal expense reimbursement plans ensure employees are fairly repaid for any upfront payments they make on behalf of the business. Plus, it gives management a clear way to regulate and monitor spending.
What expenses qualify for reimbursement?
Not every expense an employee incurs while on the job will warrant a reimbursement.
The federal Fair Labor Standards Act (FLSA) only requires employers to reimburse work-related expenses in certain circumstances, like when it causes their total earnings to fall below minimum wage.
Several states make it obligatory for employers to reimburse employees for necessary business expenses.
Thus, it’s largely up to each business to create an expense policy that is reasonable for workers, complies with relevant regulations, and doesn’t encroach on the company’s profits.
Some of the most common expenses that qualify for reimbursement include:
- Travel: Includes any airfare, gas, auto mileage, lodging, or other travel expenses incurred on a business trip.
- Meals: Covers reasonable expenses for meals while traveling for business
- Office supplies: Reimbursement for any tools, supplies, or equipment the employee must purchase to perform their duties
- Training: Companies may cover the fees, registration costs, and materials for employees to attend certain training events, conferences, or complete certification courses
- Education: Employees who further their education in a field related to their job may be reimbursed for a certain amount of their tuition and other educational expenses
- Communication: If an employee uses their personal phone for business purposes, their employer may reimburse them for a portion of their monthly bill
A company’s expense policy may vary depending on the industry and nature of its business, so you must be clear with employees about what qualifies for reimbursement to avoid future conflict.
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How to create a solid expense policy
A well-structured expense reimbursement plan keeps your employees happy and confident that they’ll be promptly reimbursed for any out-of-pocket expenses to support business.
On the other hand, creating an employee reimbursement policy helps protect the business by preventing situations where employees significantly overspend while on a work trip with the expectation that their employer will fully reimburse them once they return.
Here are some helpful tips and best practices to help you create a solid expense policy:
Determine what expense can be reimbursed
Businesses must first consider which expenses they will reimburse employees for.
Companies don’t mind reimbursing employees for business-related expenses because they are often deductible and lower their tax liability at the end of the year.
Only certain business expenses are tax deductible. So, many companies will build their reimbursement policies with an accountable plan that follows IRS Publication 463, which outlines business expense guidelines. This way, reimbursements are not counted as taxable income for employees.
Of course, you can reimburse employee expenses outside the IRS’s guidelines for tax-deductible expenses. However, these payments are typically considered taxable wages for your employees.
Create an exhaustive list of qualifying expenses
Put these qualifying expenses in writing for employees to reference, creating a working list that you can update as needed.
It may be helpful to break down these qualifying expenses by department or position and outline the specific budgets for each to further clarify what you will reimburse.
For example, you may reimburse gas costs for field technicians who travel to service clients, though this likely wouldn’t apply to your marketing department or other workers based in the office.
With certain types of expenses, you may provide an approved vendor list to encourage employees to purchase from companies you have thoroughly vetted and have working relationships with, ensuring you get the best deals and quality.
Outline the expense reporting process
All steps and procedures in the expense reporting process should be expressly stated in writing. This will help eliminate any confusion and leave little room for interpretation.
Employees should clearly understand the type of documentation and steps needed to submit an expense report and be reimbursed.
For instance, can they submit screenshots of receipts, or do they need a physical copy? Explain all other details they need to provide about the purchase, such as the vendor name, date of purchase, and purpose for the expense.
Businesses may even create a pre-approval process for certain expenses, requiring employees to get the okay from managers before making large or out-of-the-ordinary purchases.
How to process expense reimbursements
The formal process to manage expense reimbursements can vary from company to company. However, the following steps provide a general overview of what this process might look like.
1. Submitting an expense report
Traditionally, when employees pay for business-related expenses out of pocket, they must submit a formal expense report to begin the reimbursement process.
This document provides a breakdown of the specific business expenses an employee incurred and the relevant supporting details, like the total amount, date, and reason for the purchase.
Expense reports provide official documentation to help the business track costs by department and expense category, ensure they stay within budget, and monitor business spending over time.
Small companies may request and process expense reports manually, though the work can become tedious and unmanageable as they grow.
Convenient expense management software like BILL streamlines this process. It automatically captures relevant expense data as employees spend in real-time and routes it to the designated managers for immediate review and approval.
2. Processing the report
When completed manually, the finance or accounting department will receive and review the expense report against the company’s policies.
The team will ensure the spending is a qualifying expense, doesn’t exceed the approved budget limit, is categorized properly, and has the appropriate supporting documentation.
They may need to follow up with the employee to clarify discrepancies or request missing receipts or information before they can approve reimbursement. The company’s policies may require the team to secure additional manager approvals before disbursing the funds.
Again, an automated expense management solution like BILL will complete this step automatically, with receipt matching, rule-based categorization, and approval routing occurring as soon as employees make a purchase.
3. Reimbursing approved funds
Upon approval, the finance department will initiate the reimbursement, which is typically made via direct deposit to the employee’s bank account.
Not every expense report will be approved. If an expense was non-reimbursable, this should be clearly communicated to the employee so they understand why their request was denied.
Common challenges with expense reimbursements
Expense tracking and reimbursements can be a headache for small businesses.
Especially when they lack the proper policies, expertise, or tools to help them manage out-of-pocket expenses, there is plenty of room for spending to creep higher, leaving business owners feeling like they have no choice but to reimburse employees when requested.
These are some of the common challenges with reimbursements that plague small business owners:
Delayed reimbursements
Many factors can cause delays with reimbursements, but regardless of the reason, employees can become frustrated if they have to wait months before being reimbursed.
Delayed reimbursements can also trouble the business. Until they've accounted for employee reimbursements, they may lack visibility over their cash flows and expenses, which can impact budgeting and other financial decision-making.
Manually processing expense reports is a major culprit for such delays. Maybe employees submit incomplete expense reports, procrastinate turning in their reports, or the accounting team simply becomes swamped with other responsibilities.
In any case, the back-and-forths between employees and management to request missing receipts, manually enter data, and verify spending against expense policies can be extremely tedious and time-consuming.
Unclear expense policies
It can be uncomfortable when employees and employers don’t agree on what qualifies for reimbursement.
Small businesses, in particular, may not see the need to create a rigid expense reimbursement plan when they just have a few employees.
However, this can often lead to overspending, blurred lines between personal and business expenses, and frustrations between the owner and employees about what the business should cover.
Establishing expense reimbursement policies and procedures as early as possible is a best practice that encourages responsible and fair spending, protecting both employees’ and the business's financial interests.
Tax considerations
Companies must follow strict IRS guidelines regarding employee reimbursements to avoid certain tax implications, which can be challenging for small businesses to manage properly.
In general, expense reporting needs to follow these requirements to be non-taxable:
- Expenses must be business-related
- Expenses must be reported in a timely fashion
- Any excess reimbursements should be returned to the employer
So, if an employee waits too long to submit an expense report or is reimbursed for non-business-related expenses, the payment could be considered taxable income.
Simplify expense management with the right software
When employees spend their own money on business-related expenses, a reimbursement process allows the employer to pay them back for qualifying expenses.
Reimbursing employees can be tedious and time-consuming when processed manually, though it’s a necessary process that helps businesses track spending more accurately, meet compliance requirements, and satisfy employees when they’re made financially whole.
An automated solution like BILL makes it easier to manage spending in real-time against your budget. Employees submit mobile receipts for reimbursement, managers are notified to give approval via push notifications, and approved payments are sent to employees through payroll or ACH transfer.
Try BILL Spend & Expense today to simplify expense reimbursements.
