Overcoming Nondeductibility of Entertainment Expenses

Question:        Is there any way to deduct business entertainment expenses after the most recent tax legislation?

Answer:          The Tax Cuts and Jobs Act of 2017 fully eliminated deductions for entertainment expenses incurred by taxpayers, effective for tax years beginning after December 31, 2017.  With the new tax law, taxpayers can no longer deduct any of the expenses in connection with amusement, recreation and other entertainment events where businesses entertain clients, suppliers, vendors, employees and others.  One viable approach for dealing with the disallowance of deductions for entertainment expenses is identifying expenses incurred and determining if they can be reclassified or deducted in another fashion.  With proper substantiation and documentation of expenses incurred, certain costs that taxpayers may have traditionally deducted as entertainment expenses may continue to be deductible. Also a shift from traditional entertainment expenditures to marketing and other promotional expenditures may yield a better tax result.

Business meals are one obvious area where taxpayers may continue to deduct expenses incurred. The law continues to allow deductions for 50% of the food and beverage expenses incurred in connection with a trade or business if various requirements are satisfied.  To the extent that expenses you might otherwise be calling entertainment expenses are in fact for business meals, then one-half of the costs incurred in connection with such meals may be deductible.

Assume that your company sponsors a golf outing every year where customers and others are invited for a round of golf, lunch, dinner and other activities. In the past, the company may have received one invoice for the entire cost of the event, one-half of which was deducted as an entertainment expense.  Because the entertainment portion of the event is no longer deductible, the company would be better served by obtaining a separate invoice for the costs of food and beverages provided at the outing to benefit from the allowable 50% deduction for meal costs.  

To satisfy the requirements for deducting business meals, the expenses must be ordinary and necessary expenses of a taxpayer’s trade or business and there must be discussions, either before, during or after the meal, which relate to business matters.  A deduction for business meals is not permitted if the expenses are lavish or extravagant.  A taxpayer or taxpayer’s employee must be present while the business meal is being furnished.  Finally, a taxpayer must keep adequate records as to the nature of the meals furnished specifying the particular person to whom the meal was furnished and the time, place and the nature of the business discussion. 

You might also consider shifting your focus from expending costs for entertainment to expenses which continue to be deductible.  Advertising and promotional expenses conducted in connection with a trade or business will be deductible by a taxpayer.  An expense such as placing an advertisement in a newspaper or over the Internet will still be fully deductible by the taxpayer.  Promotional expenses such as sponsoring a sporting event or placing an exhibit at a trade show can be deducted.           Taxpayers can also continue to deduct the costs of promotional items such as disseminating hats or shirts with a company name and/or company image.

One concern with deducting advertising and promotional expenses is determining whether such expenses can be deducted in full or instead must be capitalized and then amortized and deducted over a period of years.  While routine advertising and promotional expenses can usually be deducted at the time the expense is paid or incurred depending on the taxpayer’s method of accounting, major advertising expenses largely directed towards long-term benefits may have to be capitalized and deducted over a period of years.

The tax laws on the deduction of business entertainment, meals and similar expenses have meaningfully changed over the years.  At one time, business entertainment expenses were fully deductible.  The deduction for such expenses was then limited to 80% and then further limited to 50%.  With entertainment expenses no longer deductible and business meals deductible to the extent of 50% of the costs incurred, taxpayers would be well served by attempting to reclassify such expenses as meal expenses where appropriate.  Also, a shift of business expenditures to promotional and advertising expenditures may yield a better tax result.

The Tax Corner addresses various tax, estate, asset protection and other business matters.  Should you have any questions regarding the subject matter or if you have questions you want answered, you may contact Bruce at (312) 648-2300 or send an e-mail to bruce.bell@sfnr.com.