Do I Need to Pay Taxes on Per Diem?

As a 1099 contractor in Chattanooga, you may receive a per diem—a daily allowance to cover expenses like meals and incidentals while working away from home. Some local companies pay this in cash, while others require you to invoice for it. If you’re wondering whether you need to pay taxes on per diem, how the payment method affects you, and the best way to handle it, this guide breaks it down.

Is Per Diem Taxable for 1099 Contractors?

Yes, per diem payments are generally taxable income for 1099 contractors. Unlike W-2 employees, who may receive tax-free per diems under an IRS “accountable plan” (with strict receipt and reporting rules), contractors must report all payments—including per diems—as income on their Schedule C (Profit or Loss from Business). This includes both cash per diems and those invoiced to the client.

However, the good news is you can deduct business-related expenses that the per diem is meant to cover, such as meals or travel costs, to offset the taxable income. The key is understanding how the payment method and IRS rules apply.

Cash Per Diem vs. Invoiced Per Diem: What’s the Difference?

1. Cash Per Diem

• How It Works: The company pays you a fixed daily amount (e.g., $65/day) in cash or as a separate bank transfer to cover meals and incidentals.

• Tax Reporting: This amount is typically included in the total compensation reported on your Form 1099-NEC (Nonemployee Compensation), which the company sends to you and the IRS. Even if it’s paid separately, it’s considered part of your income.

• Risks: If you don’t report the cash per diem as income, the IRS can detect it through 1099-NEC matching or audit trails (e.g., bank deposits or payer records). Underreporting can lead to penalties, interest, or back taxes.

• Recordkeeping: You’ll need to track when and where you received the per diem to align it with your travel and expense deductions.

2. Invoiced Per Diem

• How It Works: You include the per diem as a line item on your invoice to the client (e.g., “Per Diem: $65/day x 5 days = $325”). The client pays it as part of your total invoiced amount.

• Tax Reporting: Like cash per diems, this is reported as income on your Schedule C and included in your 1099-NEC. The invoicing process creates a clear paper trail, making it easier to track for both you and the IRS.

• Benefits: Invoicing provides built-in documentation, which can simplify proving the per diem was part of your compensation. It also ensures the payment is explicitly tied to your work agreement.

• Recordkeeping: Keep copies of invoices, payment confirmations, and travel records to support your income and deductions.

Key Difference

The main difference is documentation and transparency. Invoiced per diems are explicitly recorded in your billing, making them easier to track and less likely to be overlooked when filing taxes. Cash per diems, while convenient, require diligent recordkeeping to ensure you report them accurately, as they may not be as clearly documented unless included in the 1099-NEC.

How to Handle Per Diem as a 1099 Contractor: The Safest and Best Approach

To stay compliant with the IRS, minimize tax liability, and simplify your bookkeeping, follow these steps:

1. Report All Per Diem as Income

• Whether paid in cash or invoiced, include the full per diem amount as income on your Schedule C. For example, if you receive $65/day for 20 days, report $1,300 as income.

• Why? The IRS receives a copy of your 1099-NEC, and discrepancies between reported income and the 1099-NEC can trigger audits or penalties (e.g., 20% accuracy penalty).

2. Deduct Federal Per Diem Rates

• As a 1099 contractor, you can deduct the federal per diem rate for meals and incidentals (M&IE) for your travel location, which may exceed the per diem you receive. For 2025, the M&IE rate in Chattanooga and most continental U.S. locations ranges from $66–$79/day, depending on the area (check gsa.gov for specific rates).

• Example: If you receive $65/day but the federal M&IE rate for Chattanooga is $79, you report $65 as income but deduct $79/day. This creates a net deduction of $14/day, reducing your taxable income.

• No Receipts Needed: For standard per diem deductions, the IRS doesn’t require meal receipts—just proof of travel (e.g., call sheets, emails, lodging receipts, or client contracts showing travel dates and locations).

3. Prefer Invoiced Per Diems

• Why It’s Safer: Invoicing creates a clear record of the per diem, aligning your income with the 1099-NEC and reducing the risk of underreporting. It also professionalizes your billing process.

• How to Do It: Add a line item to your invoice, e.g., “Per Diem (Meals & Incidentals): $65/day x 10 days = $650.” Ensure the client agrees to this in your contract or work agreement.

• Tip: If a company insists on cash per diems, ask if you can invoice instead to streamline your records. If they refuse, track cash payments meticulously (e.g., log dates, amounts, and deposit records).

4. Keep Solid Records

• For Income: Save invoices, bank statements, or payment confirmations showing per diem amounts. For cash payments, note the date, amount, and payer in a log.

• For Deductions: Document travel details—dates, locations, and business purpose (e.g., “Worked on-site for Client X in Chattanooga, 3/10–3/15/2025”). Retain call sheets, emails, or lodging receipts as proof of travel.

• Tools: Use accounting software like QuickBooks or Wave to track income and expenses, or maintain a simple spreadsheet.

5. Consult a Tax Professional

• A CPA or tax advisor familiar with 1099 contractor rules can help you:

  • Confirm the correct federal per diem rates for your travel locations.

  • Maximize deductions while ensuring compliance.

  • Prepare for potential IRS audits by organizing your records.

• This is especially important if you travel frequently or work with multiple clients, as your tax situation can get complex.

Why Not Skip Reporting Per Diem?

Some contractors might be tempted to omit cash per diems from their taxes, especially if they seem “off the books.” However, this is risky:

• IRS Detection: The IRS cross-references 1099-NEC forms with your tax return. If the payer includes the per diem in your 1099-NEC (common practice), underreporting will likely be caught.

• Audit Trails: Bank deposits, payer records, or contracts can reveal unreported income during an audit.

• Penalties: You could face back taxes, interest, and penalties (e.g., 20% of underreported income or more for intentional fraud).

Reporting per diems and taking deductions is far safer and often more financially beneficial due to the ability to deduct federal rates.

Final Thoughts

As a 1099 contractor in Chattanooga, whether you receive cash or invoiced per diems, the safest and best approach is to:

• Report all per diem payments as income on your Schedule C.

• Deduct the federal M&IE rate for your travel locations to offset or even reduce your taxable income.

• Prefer invoiced per diems for clearer documentation and easier tracking.

• Keep detailed records of income and travel to support your deductions.

• Work with a tax professional to stay compliant and optimize your tax strategy.

By handling per diems correctly, you can minimize your tax burden legally while avoiding the stress of potential IRS scrutiny. If you’re unsure about your specific situation, reach out to a local CPA who understands the nuances of contractor taxes in Tennessee.

Note: Tax rules can vary by situation, and federal per diem rates change annually. Always check the latest IRS guidelines (irs.gov) or GSA rates (gsa.gov) and consult a tax professional for personalized advice.

See my previous blog “Spend your @#$%^&* Per Diem”