Deducting Business Meals & Entertainment

Part of the costs of entertaining clients and other business contacts can be deducted on your tax return, but special rules apply.

50% Limitation

Entertainment expenses must meet certain tests below to qualify as tax deductions. Even then, the deduction is limited to 50% of the qualifying deductions. If you average $50 of meal & entertainment expenses per week, your total expenses for a year are $2,600 – but you only get to deduct $1,300 on your tax return.

Qualifying expenses

All business expenses must be “ordinary and necessary” to qualify as tax deductions. Meal and entertainment expenses must also be either “directly related to” or “associated with” your business to qualify as deductions. There are several ways to meet these tests:

• The expense is “directly related” if it involves an active discussion aimed at getting immediate results. For example, taking a client or prospective client to lunch and making a sales pitch during the lunch is directly related to your business, and deductible.
• If business is not discussed during the meal or event, it could still qualify as “associated with” the business if it precedes or follows (i.e., takes place on the same day as) a substantial and bona fide business discussion. For example, you have a bona fide business discussion with a client in your office, then take the client to a sporting event. The event is “associated with” your business and 50% of its cost is deductible.
• The “associated with” test is also met by “goodwill” types of entertainment which have the goal of acquiring or continuing a business relationship, but do not have a specific immediate goal.
• Note that you or an employee must be present at the meal or event for it to qualify. Simply covering the cost of a client’s meal that you didn’t attend doesn’t qualify.
• While we focused on clients above, these rules also apply to meals and entertainment with other types of business contact, such as suppliers or referral sources.

Substantiation

The IRS also has special record-keeping requirements for entertainment expenses. Estimates are generally not sufficient to stand up to an IRS challenge. A contemporaneous calendar, log, or other record should be kept which establish the:

• Amount spent,
• Time and place,
• Business purpose, and
• Business relationships of the persons involved at the meal or event.
• For any expense of $75 or more, a receipt or other documentary proof should be retained.

Please feel free to contact us if you have a question, or leave a comment below.