The Tax Cuts and Jobs Act, signed into law by President Trump on December 22, 2017, contains some of the most significant changes to the tax code in the past 30 years. This article will look at how those changes affect the deductibility of business expenses such as entertainment, meals and employee transportation.
Before we discuss the changes, let’s take a reassuring tour of the business expenses that have retained their deductibility status. Expenses for the office Christmas party? Still one hundred percent deductible. Costs for the traditional employee summer picnic? Continue to be fully deductible. What about other departmental gatherings and outings and accompanying refreshments? Likely, these costs remain deductible so long as the activity primarily benefits those employees who are not considered highly compensated.
The IRS is expected to issue guidance soon confirming that 50% of the cost of legitimate business-related meals and refreshments will remain deductible. So, if the expense is not lavish or extravagant, you may likely still be able to deduct half of the cost of taking a client or customer to dinner. The costs of meals incurred by employees for business lunches or while traveling on company business are still available for a 50% deduction, provided they are not lavish or extravagant. Subject to the 50% limitation, the cost of meals incurred while attending a service club (Kiwanis, Rotary, etc.) should also be deductible, although the membership dues are likely not.
Some situations are less clear, and you should consult with your accountant or tax advisor for further guidance. These include events, such as a picnic, with food and beverages for customers. Whether such expenses are fully or partially deductible depends on the circumstances and who is invited. There is similar uncertainty surrounding the cost of food, drinks and refreshments provided as a hospitality at promotional events that do not include entertainment. Again, depending on the circumstances and who is invited, these costs may be subject to the 50% limitation, or may be fully deductible. The food and drink should not be highlighted but should be incidental to the event. You might also consider whether such events would qualify as advertising. Finally, it is possible that the cost of bottled water, soft drinks, etc., made available to customers and visitors to a business may qualify for the exception for items made available to the public and be 100% deductible.
So, what has changed for sure? The big expense that no longer qualifies is entertainment. That’s gone. You can still take your client to the golf course, but the cost of doing so is no longer a deductible business expense. The same goes for the cost of tickets to a sporting event or concert. The Tax Cuts and Jobs Act eliminates deductions for any expenses related to activities generally considered entertainment, amusement, or recreation.
This includes the cost of memberships to social, athletic, or sporting clubs; for example, gym and country club memberships are no longer deductible. The cost of a suite at an arena is also no longer available for deduction. The cost for a ticket to a charitable sporting event would also be non-deductible, although the charitable donation portion would be.
There was some initial confusion about whether the cost of business meals would continue to be deductible or would be considered entertainment. That seems to have been an over-reaction, with the IRS expected to clarify that in most cases 50% of business meals will be eligible for deduction.
Some uncertainty still exists when entertainment and meals combine. For example, the cost of tickets to a ball game are now not deductible, but what about the drinks and snacks purchased during the game? You should check with your tax advisor, but these expenses may be too closely associated with the entertainment to be deductible.
It gets even more complicated if you take a client or customer to dinner before or after the entertainment. If there is a documentable business purpose, clearly separate from the entertainment, and the cost of the meal is not lavish or extravagant, fifty percent of the cost should be deductible. However, the circumstances may make the meal non-deductible. Get some guidance from your tax advisor and be sure to document the business purpose of the meal.
Some expenses will have 50% limits to their deductions until 2025, when they will cease (barring a change in the law) to be deductible at all. These include the cost of meals and refreshments brought or delivered to the business for employees who are working overtime. Businesses that operate a cafeteria or other eating facility on or near the property for employees will have the deduction for that expense limited to 50% from 2018 to 2025, after which it will no longer be deductible. Sadly, this includes things like coffee and doughnuts in the breakroom.
Before 2018, businesses could deduct the cost of employee parking, transit passes, and bicycle commuting reimbursement, and the employee could exclude the benefit from income. Now, only the bicycle commuting reimbursement remains deductible, but the employee may no longer exclude that benefit from his income.
What is the likely impact of these changes? There is no doubt that the cost of developing and maintaining business relationships will increase, as will the cost of providing some amenities to employees, clients, and customers.
But if the golf course is really the place that deals are made for your business, you can’t very well stop playing with clients just because it is no longer tax deductible. And if your best customers really look forward to the occasional ball game, it probably makes sense to keep paying for the tickets.
Google has not done away with their legendary free cafeteria, and it is hard to imagine that they would. While the cost-benefit analysis of developing business relationships and providing employee perks has shifted, it seems likely that the benefits these expenses provide will be enough to warrant their continued existence despite the changes to the tax law.
This blog is intended as an overview of the new changes in the tax law and should not be relied upon for any purpose other than consulting your accountant or tax advisor.