Many businesses have expenditures on meals and entertainment (M&E) as a part of normal business operations. Whether it is providing meals to employees, bringing staff and clients to sporting events or impressing prospects for new business, it is often part of the regular work week. Majority of business owners have the notion that for the most part, M&E is 50% deductible. This, however, is an oversimplification of the rules. In practice, the M&E deduction can be either 100%, 50%, or 0% deductible depending on the facts and circumstances.
The 2017 Tax Cuts & Jobs Act has made important changes related to deducting M&E expenses, most prominently changing the treatment between business meals and business entertainment. These changes are effective January 1, 2018. It is important for taxpayers to be aware and appropriately track meals and entertainment in accordance with the new rules to produce accurate tax deductions for 2018 and beyond.
Under the new tax reform businesses may continue to deduct 50% of the cost of business meals if the meals are not considered ‘lavish or extravagant’, the taxpayer is present, and the meals are provided to a current or potential business contact. The guidance also clarifies that food and beverage costs provided during business entertainment events will not be considered as part of (excluded) entertainment costs if purchased separately from the event.
With clear recordkeeping to separate meals from entertainment expenses, it will be possible for most taxpayers to maintain at least the business meals portion of the old deduction for meals and entertainment expenses. In planning for larger business entertainment events, one planning step would be to request itemized receipts that separate meal expenses from entertainment.
In addition, the new tax reform changed the treatment of meals provided to the employee for the convenience of the employer from 100% deductible to 50% deductible. Previously, for example, meals to facilitate an office meeting were 100% deductible and are now only 50% deductible. The regulations did however carve out company holiday or recreational social activities for employees to remain 100% deductible.
Generally, the new tax reform eliminates the deduction for expenses relating to entertainment, amusement or recreation activities (including membership dues for such activities). The previous exception allowing “directly related to” or “associated with” exceptions has been removed with the Tax Reform.
We have provided the chart below as a quick reference to some of the changes (not all encompassing).
Some examples of items subject to the 50% limit include:
- Meal expenses related to entertaining customers or prospects whether it be at your place of work, a restaurant or other locations
- Meal expenses related to attending a business convention, seminar, reception, luncheon
- Meal expenses relating to being away from home on business, whether alone or with others on business
- Meal expenses provided to employees for the convenience of the employer
QUALIFYING MEALS/RECORD KEEPING
When evaluating meal expenses for deduction, the first step is to ensure the following criteria are met:
Ordinary and Necessary
- Ordinary means common and accepted in a field of business
- Necessary means helpful and appropriate to your business
Directly-Related or Associated-With Requirement
- The main purpose of the entertainment was the conduct of business.
- You engaged in business during the entertainment period.
- You expected to get income or some other business benefit.
- The expense is associated with the active conduct of a trade or business. Such as, getting new business or encouraging the continuation of an existing business relationship.
- You discuss a substantial amount of business before, during, or after the meal.
Not Overly “Lavish or Extravagant”
- The expenses cannot be overly lavish or extravagant. If they are, the portion of the expense deemed excessive will be disallowed.
Recordkeeping and Substantiation
- IRC Section 274 provides for full disallowance of meals and entertainment expenses unless the taxpayer can substantiate the business purpose of the expenditure. The following details must be documented for each expenditure more than $75:
- The amount of expense;
- The time and place of the meal or event;
- The business purpose of the expenditure; and
- The business relationships of those in attendance.
The deductions for M&E under IRC Section 274 have been made even more complex by Tax Reform. If you have any questions related to the deductibility of meals or entertainment expenses for your business, please contact us so that we can evaluate your specific facts and circumstances.