Should Entertainment Expenses Be Fully Disallowed?
October 4, 2018
Although companies are no longer eligible to deduct business entertainment expenses like baseball tickets and golf outings, Notice 2018-76 was released and provides guidance that allows companies to partially deduct the meals incurred at entertainment events.
It used to be ok to lump together things like games and dinners as “meals and entertainment” expenses because all those things were generally 50 percent deductible.
In light of tax reform, businesses need to review their meal and entertainment (M&E) spending right away. And, rather than face possible fines and an accounting nightmare later, they should create procedures for appropriately categorizing those costs now and ensuring that proper contemporaneous documentation is maintained.
Fishing and skiing trips, concerts and other recreational activities intended to entertain clients or develop new business are no longer deductible.
It’s All About Substantiation
Here are a few ways to make sure your company’s M&E expenses are categorized properly to reflect proper deduction:
- Decide on policy changes.Evaluate your M&E policies and determine whether to make changes – and then communicate them clearly to employees. Some companies are still allowing employees to entertain clients just as often as before, even if the expenses can’t be deducted. Others are trimming budgets, setting dollar limits, or requiring managerial approval.
- Educate employees.Work with tax professionals or in-house finance staff to write a comprehensive guide for employees that explains the changes for each type of expense, and how to properly categorize them. If your company does have client entertainment expenses, put policies in place to ensure itemized receipts are maintained to support partial deduction of meal expenses that may be incurred at an entertainment event.
- Add more expense categories.Adjust the software or program that employees use to submit expenses and receipts to add additional specific categories that are easy to understand. Examples include “business meal with client” or “meal during client entertainment event.”
- Conduct spot checks.Encourage your accounting and finance team members and others who process employee expenses to conduct random checks every month to ensure that items are being properly categorized and that sufficient detail is maintained to justify expenses (i.e., Was there a business purpose and who were the attendees?).
The new rules are prompting some companies to discover that they haven’t been taking full advantage of deductions for things like employee holiday parties and break room snacks. It’s important that companies understand the difference between internal entertainment events and client entertainment events since employee recreational expenses remains 100 percent deductible. Be sure to audit your own books and make necessary judgments if you find you were not taking the full deduction when and where permitted.
Although external entertainment and events such as sports, concerts and recreational trips can’t be deducted anymore, the meal expenses incurred at these events may be partially deducted as long as these expenses are incurred separately from the cost of the entertainment and assuming that appropriate documentation is maintained (i.e. receipt itemizes cost of entertainment from meals).
Some employee social events can still be fully deducted, assuming they are incurred for the benefit of the employee.
Make sure your employees understand the new M&E rules and your company’s M&E policies. Nobody wants to raise the risk of audits or penalties over meals and entertainment.
|M&E Expenses||2017 Rules||2018 Rules|
|Office Holiday Parties||100 percent deductible||100 percent deductible|
|Entertaining Clients||50 percent deductible Event tickets, 50 percent deductible for face value of ticket; anything above face value is non-deductible||No deduction for entertainment expenses, however, meals incurred at client entertainment events may be deducted at 50% if the cost is incurred separate from the cost of the event|
|Business Meals Employee Travel Meals||50 percent deductible||50 percent deductible|