The Tax Cuts and Jobs Act of 2017 eliminated the deduction for business entertainment expenses. What wasnâ€™t as clear was the fate of business meal deductions associated with that entertainment. Now, in Notice 2018-76, the IRS has weighed in with guidance that preserves business deductions for meals incurred in connection with entertainment activitiesâ€”as long as the meals meet certain requirements.
This news comes as somewhat of a surprise. It had been widely speculated that deductions for meals in this context would be disallowed as part of the TCJA crackdown on entertainment expenses.
Prior to the TCJA, you could deduct 50 percent of the cost of qualified entertainment and meal expenses, as long as those expenses were properly substantiated under the strict recordkeeping rules in Internal Revenue Code (IRC) Section 274. This included meals that were directly related to your business, such as food and beverages served at a hospitality suite at a business convention, plus entertainment expenses associated with your business, like a meal preceding or following a substantial business discussion.
The deduction for food and beverages, however, was limited to costs that were not considered to be lavish or extravagant. Furthermore, the business taxpayer or an employee or other representative had to be present at the meal.
In December of 2017, congress passed the Tax Cuts and Jobs Act which eliminated the deduction for entertainment expenses. The repeal is effective for amounts paid or incurred after 2017. As a result, deductions for meals incurred in connection with entertainment activities were up in the air.
IRS Guidance Provides Clarifications
Notice 2018-76 provides some much-needed guidance. Accordingly, business taxpayers may deduct meals that meet the following requirements:
- The expense is an ordinary and necessary business expense under IRC Section 162 that is paid or incurred during the tax year when carrying on any trade or business
- The expense is not lavish or extravagant under the circumstances
- The taxpayer, or an employee of the taxpayer, is present when the food or beverages are furnished
- The food and beverages are provided to a current or potential business customer, client, consultant or similar business contact
- Any food and beverages provided during or at an entertainment activity are purchased separately from the entertainment or the cost of the food and beverages is stated separately from the entertainment expenses on one or more bills, invoices or receipts.
Note that the IRS wonâ€™t allow taxpayers to circumvent the crackdown on entertainment deductions by inflating the amounts charged for food and beverages.
To illustrate its interpretation of the rules, the IRS provides three examples in the new Notice where taxpayers attend sports games with business contacts. It is assumed that that the food and beverage expenses are ordinary and necessary expenses under IRC Section 162 that were paid or incurred during the tax year in carrying on a trade or business and they are not lavish or extravagant under the circumstances. Also, it is assumed that the taxpayer and the business contact are not engaged in a trade or business that has any relation to the entertainment activity
- Example #1: The taxpayer takes a business contact to a baseball game and buys hot dogs and drinks for the two of them. Although the cost of the tickets is nondeductible entertainment, the taxpayer can deduct 50 percent of the cost of the hot dogs and drinks that were purchased separately.
- Example #2: The taxpayer takes a business contact to a basketball game in a luxury suite. During the course of the game, they have access to food and beverages, which are included in the cost of the luxury suite tickets. In the case, both the cost of the tickets and the food and beverages are treated as nondeductible entertainment.
- Example #3: The facts are the same as in the prior example, except that the invoice for the basketball game tickets states the cost of the food and beverages separately. Therefore, the taxpayer can deduct 50% of the cost of the food and beverages, although the cost of the tickets remains nondeductible.
The IRS expects to issue proposed regulations shortly with more details on deductions for meal expenses. In the meantime, taxpayers can continue to rely on the guidance set forth in Notice 2018-76.
If you have questions on business entertainment expenses or changes to the deductibility of meals under the Tax Cuts and Jobs Act, please email Daniel Foley or call 602-730-3649.