Accounting Best Practices

Your Uncle Sam May Not Like Boats –
But You Can Still Deduct Some Expenses
By: Paul Bayer

It has been said the two best days in a boat owner’s life are the day he buys a boat and the day he sells it. The latter can be particularly true for business owners who expect to reap substantial tax deductions from their boats, and subsequently find out that the IRS specifically denies deductions for the cost of “entertainment facilities”, which by definition includes boats. However, some deductions are allowed that make boat ownership a bit more enjoyable.

Costs of Entertainment Facilities are NOT Deductible but the Entertainment May Be

Rent, depreciation, maintenance, and other operating expenses are generally not deductible, but the cost of food and beverages, including catering costs, provided to business guests at an entertainment facility generally are allowed. So if you rent a boat for “associated with business” entertainment (e.g., a party for business associates directly following a substantial and bona fide business discussion), the rental cost isn't deductible, but 50% of the costs of the food and beverages are.

Certain costs may also be deductible for employee parties held on boats. However, you should understand that the IRS may scrutinize these deductions closer that those deducted for a landlubbers-only party. In fact, non-bona fide expenses are not deductible or even worse, such expenses may be taxable to your employees. For example, a district court held that the costs of a company's annual employee fishing trip were taxable wages to the employees in lieu of other deductible business expenses. The court rejected the company's argument that the trip was a “team building” exercise resulting in the company paying over $50,000 in additional employment taxes (that certainly gives meaning to the “one that got away” – Ouch!).

Is it a Second Home?

The most prevalent tax deduction for boat owners is the “second residence” mortgage interest expense deduction. The IRS defines a "second residence" as one with sleeping quarters, cooking facilities, and a toilet with running water. If your boat qualifies as a second residence, interest on the boat loan may be deductible.

In order to deduct interest, the loan must be secured by the boat. In addition, if you rent the boat to others, the IRS will expect you to use the boat as a residence for at least 15 nights during the year. Documentation is required. Also recognize that a boat sitting on your trailer in the driveway with a bimini top, an air mattress on the deck, and a hibachi on board will not meet the residence test, nor will it endear you to your neighbors. Finally, remember you can only deduct interest for one "second residence".

Home Office?

A taxpayer who uses a “dwelling unit” as a residence may, with certain limitations, deduct expenses attributable to its business use. A dwelling unit may be a house, apartment, condominium, mobile home, boat, or similar property with basic living accommodations. Generally, a dwelling unit is used as a residence during a tax year if the number of days you use it for personal purposes exceeds the greater of 14 days or 10% of the number of days the boat is rented at a fair market rental (excluding days you use the boat for personal purposes).
The deduction for business use of your boat only applies to the portion of the boat used exclusively for business, and regularly used as (1) your principal place of business and (2) a place where you regularly meet or deal with patients, clients or customers in the normal course of business. Employees must meet an additional hurdle, in that the home office must be for the employer’s convenience.

Expenses for the business use of the boat might also arise from space used for inventory storage by a wholesaler or retailer. In both cases, reasonable and ordinary business costs, including an allocation of utilities, taxes, and insurance, may be qualified deductions. However, remember that taking this deduction can be a red flag so to avoid rough seas, make sure you consult a professional regarding the availability of these deductions, as there are a number of additional considerations when claiming a business deduction for use of a home office.

Charter the Boat?

You might also consider placing your boat in a managed charter program, where the boat is rented to other businesses. The rental income you earn can be offset against operating expenses, such as docking fees, storage, fuel, maintenance, and depreciation.

The charter boat activity will likely be subject to close scrutiny and the IRS will require adequate documentation of the number of days of annual business and personal use. Also, losses from the charter business may be limited as they may be subject to the "passive activity" rules. Still, a managed charter program can be lucrative to the business person with a luxury yacht who uses it primarily for entertainment.

Florida is a great place to enjoy water sports, and a boat can be a great place to close a deal. With proper planning and documentation, boat owners can have some fun in the sun and reduce their taxes. Just remember to avoid sailing too close to the wind and make sure any headaches from your entertainment are not caused by tax penalties for failing to follow the rules.

As always, please feel free to contact us if you have any questions about the article or deductibility of boat expenses in general.

Paul Bayer is currently a member of the tax department and has many years of experience working in public accounting in both audit and tax. Prior to his public accounting career, he worked in the Corporate Controller’s division for MetLife where he specialized in Derivatives accounting and Private Placement Investments accounting. Kingery & Crouse, P.A. is a full service public accounting firm with a staff of dedicated professionals providing tax and accounting services, including audits of SEC companies. You may contact Paul at (813) 874-1280 ext #247. Find us on the web @ www.tampacpa.com.

back to top