In business, building relationships is as essential to growth as creating proposals and writing estimates. Breaking bread with a fellow business owner, partner or with a prospect is one of the best ways to strengthen relationships and solidify deals. That’s why many business owners and executives budget a significant portion of their funds for meals and entertainment.
But this has always created a challenge when it comes to taxes, since there is always the question of whether a given meal, trip or entertainment activity is truly relevant to the business, or just a shortcut to having a good time.
Prior to the enactment of the Tax Cuts & Jobs Act in late 2017, the formulas for addressing this were relatively well understood and broadly accepted. However, with the advent of the new law came many dramatic changes to tax policy, and one of the biggest for many businesses could be in this area.
Under the new law, the rules for deducting business meals have been modified. Generally, businesses are able to deduct 50% of the cost of a business meal when the meal is associated with the active conduct of the taxpayer’s trade or business.
First, a specific definition for “business meal” was removed through the passage of the new law. Of note is that meals provided to employees traveling for business are still 50% deductible.
However, beginning on January 1, 2018, the cost of meals provided “for the convenience of the employer,” such as meals provided to employees who need to be available throughout the mealtime, are now only 50% deductible. Previously, such meals were fully deductible as business expenses.
In addition, the new law expands the definition of meals provided “for the convenience of the employer” to include those provided in an employer’s on-site dining location or operation, which is a significant change from prior policy.
Furthermore, beginning on January 1, 2026, the deduction of meals provided “for the convenience of the employer” will be dropped to zero (i.e. no deduction allowed).
In addition to dramatic changes with respect to meal expenses, the new law eliminates an entire range of major expenses that are key to many companies’ business development efforts. The eliminated expenses include the following categories, for which no deductions will be allowed as of January 1, 2018:
- Entertainment expenses (including those involving prospects or customers).
- Entertainment facility costs (such as stadium or skybox fees)
- Meals purchased during entertainment activities.
- Entertainment memberships (including, significantly, those for membership in any club, regardless of whether it is organized as a business club, social club or golf/recreational club).
While it’s still very early to determine how all of the permutations and ramifications will play out, we can establish some early perspectives based upon this information. These reasonable points of understanding include the following:
- Meals with business contacts that are part of an entertainment activity (such as a concert or game).
- Meals with business contacts during which there is not a substantive business discussion.
- Meals with business contacts during which there is a substantive business discussion. **
- Meals served on-site to employees for the convenience of the employer (until 1/1/26).
- Meal reimbursements for employees while traveling on company business.
- Social events and holiday parties or other celebrations for employees.
A Question about Meals and Substantive Business Discussion
Although the information just noted above maintains a two-category model for evaluating and determining the deductibility of business meals (based upon the question of “substantive business discussion”), not all tax advisors agree that the allowance of a 50% deduction for business meals during which a substantive business discussion took place still exists.
This is because the Tax Cuts & Jobs Act repealed an established series of requirements, first implemented in the Tax Reform Act of 1986, that defined specifically what “substantive business discussion” entailed. Since the definition was removed, many accountants are concluding that this means the opportunity to make the distinction itself is gone, resulting in a ‘de facto’ conclusion that business meals are now nondeductible, period.
Under this interpretation, the only remaining meal deduction would be for employee meals during business travel (50% deductible), meals “for the convenience of the employer” (50% deductible), and office social and holiday celebrations for employees (100% deductible).
Tax accountants and attorneys are quite split on the question of which interpretation to apply for their clients, so speak with your CPA about her or his understanding of the law and the preferred or recommended method for staying in compliance while the law’s impacts continue be interpreted and, in the future, more guidance from the IRS is forthcoming.
The Impact on Sponsorships and Charitable Giving
Under prior law, the portion of an event sponsorship agreement that was allocated to suites, box seats or game tickets, etc. was 50% deductible, whereas now that portion is not deductible at all (the remainder of the sponsorship value is deductible as an advertising expense).
Similarly, for charitable events (such as a golf event), the value of the golf and meals portion of the donation is not deductible at all, and only the portion of the cost associated with the charitable contribution will be deductible. In the past, both components were fully deductible.
Clearly, the new tax law can have a dramatic impact on businesses as they make decisions, allocate budgets and pursue investments in growth. The changes discussed here represent just a small portion of the overall set of new policies that the Tax Cuts & Jobs Act brings to bear. Make sure that as you work with your accountant on your 2017 taxes, that you also take time to speak with him or her about your 2018 business decisions and policies as you plan for your first tax year under the new law.
Deductions for Meals and Entertainment After Tax Reform
What Tax Reform Means for Business Meals and Entertainment Deductions
New Tax Law Takes a Bite out of the Meals & Entertainment and Transportation Deductions
Business-Related Meals and Entertainment under Tax Reform
Meals and Entertainment Changes Under Tax Reform
Image Credit: Marco Verch (Flickr @ Creative Commons)