With the passing of Tax Cuts and Jobs Act, the IRS made significant changes that will leave an impact on many business owners. Under the previous law, businesses were permitted to take a deduction of 50% for business meals and entertainment expenses. However, with the most recent amendment, the IRS eliminated the deduction for business entertainment expenses incurred or paid after December 31, 2017. Though the amendment made entertainment nondeductible, Section 274 did not address the deductibility of business meals in its entirety, making minor changes to how much can be deducted and what qualifies as a meal expense.
Entertainment:
Prior to the new Tax Cuts and Jobs Act, entertainment expenses were generally disallowed except for two exceptions including those resulting from a good faith discussion or those pertaining to a taxpayer’s active participation within a trade or business. These two types of entertainment expenses were deductible on the taxpayer’s tax return but were subject to a 50% limitation. With the passing of the TCJA reform, these expenses are no longer an exception to the rule and are, now, completely nondeductible for all taxpayers.
Though this is a significant amendment to the Internal Revenue Code, the IRS only amended the deductibility of entertainment expenses. Thus, it is important to note that the following activities are classified as entertainment by the IRS’ original definition:
| Night Clubs | Cocktail Lounges | Theaters |
| Country Clubs | Golf and sporting events | Relating to a taxpayer/family |
For other expenses, an objective test will be used to determine whether an activity can be classified as entertainment since there are a number activities that the law did not affect. There are nine activities outlined in IRC Section 274(e) that are not disallowed. Listed below are these few exceptions:
- Food and beverage for employees, including expenses for related facilities, furnished on business premises
- Expenses treated as compensation
- Reimbursed expenses under an accountable plan
- Expenses for recreational, social, or similar activities primarily for the benefit of employees
- Expenses directly related to business meetings of employees, stockholders, agents, or directors
- Expenses related to attending business meetings or conventions of any Section 501(c)(6) organization
- Expenses for items made available to the general public in a bona fide transaction for full consideration
- Entertainment sold to customers in a bona fide transaction for full consideration
- Entertainment sold to customers in a bona fide transaction for full consideration
- Expenses includible in income of persons who are not employees of the taxpayer
Meals:
The amendment to the Internal Revenue Code also revised the deductibility regarding meals expenses. Like entertainment expenses, there are certain meals that are still not subject to limitation and can be fully deductible which include:
- Expenses treated as compensation
- Reimbursed expenses
- Expenses for recreational, social, or similar activities primarily for the benefit of employees
- Expenses made available to the general public
- Entertainment sold to customers
- Expenses includible in income of persons who are not employees of the taxpayer
As you may have recognized, these few expenses are the same as those listed in the entertainment section. This poses the question: when are these expenses deductible or nondeductible? Well, the IRS allows the 50% deduction if (a) the expense is ordinary and necessary, (b) the expense is paid and incurred during the tax year, (c) the expense is reasonable (no lavish or extravagant meals), (d) the taxpayer is present at the time the expense was incurred, (e) the meals are provided to current or potential business clients and (f)the meals expense is purchased and separately stated from entertainment.
In addition to all of these expenses and limitations, Section 274 (o) addresses the topic in regards to those food and beverages that were supplied for the convenience of the employer. In previous law, these items were 100% deductible as long as they were qualified de minimis fringe benefits. Now, with the passing of TCJA, they are 50% deductible like all other meals expenses. These will continue to be 50% deductible through 2025. In 2026, meals provided for the convenience of the employer will become non-deductible.
Best Practice:
Businesses and business owners should become aware of these changes to the tax law and should consider creating new general ledger accounts that separate meals from entertainment. In doing so, it will allow businesses to obtain maximum deduction that they can take and it can only help in the case of an IRS audit.
By Christopher Danna
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