Meal and Entertainment Expenses

Growing a business sometimes requires that you wine and dine business associates. Generally, to justify claiming dining and entertainment expenses the IRS wants you to show that a business discussion or negotiation occurred with the goal of deriving income or getting some business benefit.

For example, you may entertain prospective customers in an effort to get new business or you may provide goodwill entertaining to encourage existing customers to continue doing business with you.

In other words, you do not have to show that business income or other business benefit actually resulted from each entertainment expense, only that you expected to gain some business benefit.

As a general rule, a business discussion must take place the same day as the dining or entertainment. If this is not the case, and if you're questioned, you will need an explanation that is acceptable to the IRS.

For example the IRS recognizes that if you have an out-of-town customer, it is possible for the business discussion and the dining or entertainment to be separated by one day.

50% Deduction Limit

You may only deduct 50% of meals and entertainment costs. If you buy tickets to an event, you may only deduct 50% of the face value of the tickets even if you actually paid more than the face value.

Exceptions to 50% Deduction Limit: There are certain exceptions to the 50% rule. For example, the cost of meals at a company Christmas party, picnic, or other company-related event.

The Rules for Deducting Meal and Entertainment Expenses

To be deductible, meal and entertainment expenses must be:

  • Ordinary and necessary to your business (not lavish)
  • In addition to being ordinary and necessary expenses, you must meet either one of the two restrictive tests

Ordinary and Necessary:
An ordinary expense is an expense that is common and accepted in your type of business. A necessary expense is an expense that is helpful and appropriate in your business. To be considered a necessary expense, it does not have to be required.

Lavish and extravagant expenses can raise a red flag. Although there is no dollar limit that constitutes a lavish or extravagant expenses, use your common sense.

The following IRS table provides the guidelines for deducting entertainment expenses:

When Are Entertainment Expenses Deductible?
General rule You can deduct ordinary and necessary expenses to entertain a client, customer, or employee if the expenses meet either the directly-related test or the associated test.
Definitions
  • Entertainment includes any activity generally considered to provide amusement or recreation and includes meals provided to a customer or client.
  • An ordinary expense is one that is common and accepted in your trade or business.
  • A necessary expense is one that is helpful and appropriate.
Tests to be met (only one of these tests has to be met) Directly-Related Test:
  • Entertainment took place in a clear business setting, or
  • Main purpose of entertainment was the active conduct of business, and
  • You did engage in business with the person during the entertainment period, and 
  • You had more than a general expectation of getting income or some other specific business benefit.
Associated Test:
  • The entertainment is associated with your trade or business, and
  • The entertainment occurred directly before or after a substantial business discussion.
Other rules
  • You cannot deduct the cost of your meal as an entertainment expense if you are claiming the meal as a travel expense.
  • You cannot deduct expenses that are lavish or extravagant under the circumstances.
  • You generally can deduct only 50% of your unreimbursed entertainment expenses

Clear Business Setting

If the entertainment takes place in a clear business setting and is for your business or work, the expenses are considered directly related to your business or work. The following situations are examples of entertainment in a clear business setting.

  • Entertainment in a hospitality room at a convention where business goodwill is created through the display or discussion of business products.
  • Entertainment that is mainly a price rebate on the sale of your products (such as a restaurant owner providing an occasional free meal to a loyal customer).
  • Entertainment of a clear business nature occurring under circumstances where there is no meaningful personal or social relationship between you and the persons entertained. An example is entertainment of business and civic leaders at the opening of a new hotel or play when the purpose is to get business publicity rather than to create or maintain the goodwill of the persons entertained.

Expenses Not Considered Directly Related

Entertainment expenses generally are not considered directly related if you are not there or in situations where there are substantial distractions that generally prevent you from actively conducting business. The following are examples of situations where there are substantial distractions.

  • A meeting or discussion at a nightclub, theater, or sporting event.
  • A meeting or discussion during what is essentially a social gathering, such as a cocktail party.
  • A meeting with a group that includes persons who are not business associates at places such as cocktail lounges, country clubs, golf clubs, athletic clubs, or vacation resorts.

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