Meals and Entertainment Tax Deductions For Business Owners
October 8th, 2013 by Bryan Brown
As small business owners, we understand that our jobs expand way beyond just the confines of our own office. Many times, we must reach out to existing or potential clients through a lunch, dinner or other form of less-formal business meetings. While it’s nice to get out from behind the desk every once and awhile there is one problem with this: client meals can be expensive! Whether you’re traveling overseas to do business in China or are simply chatting with someone at a local restaurant, business related entertainment and meals can really add up. Fortunately small businesses don’t have to foot the entire bill for these meetings. In an effort to promote business dealings and relations, the IRS actually offers 50% tax deductions, on meal and entertainment expenses. However, to get these large deductions, you’re going to have abide by the IRS guidelines. We wanted to explain them in a little more detail:
The Expenses Must Be “Ordinary and Necessary”
If this phrase seems vague, that’s because it is. Basically, your business must be able to show that it’s reasonable for you take out and entertain clients and other businesspeople. A financial planner could make a case that he is required to “wine and dine” clients in order to build a sense of trust. A gas station attendant may have a little bit more trouble making the same kind of case.
The Expenses Must Pass The “Directly Related To” Or “Associated With” Tests
It’s not just enough to say that your business has the right to be eating meals with clients. You have to prove that the actual entertainment venues themselves were strictly for business. This is where the “directly related to” and “associated with” tests come into play. Your business meeting must pass one of the two.
The “directly relate to” test is the harder of these two test to pass. This test requires that the primary intention of the meeting was business and that there was some form of business discussion that took place. This would more likely be applied to something like a restaurant meeting between two businessmen who were negotiating a contract. Meals that try to simply boost a relationship would not pass this test.
The “associated with” test is much easier. This can apply to meetings to meetings that involve some sort of “goodwill” and the main focus doesn’t have to be business-related. This is used for more social events such as parties, tours, and sporting events. Direct business discussion may not be needed as the meeting can simply be an act of good faith to try to strengthen an ongoing relationship. One note, a representative of your firm must actually be at the event in either case. You may not simply comp the client’s meal.
The Expenses Must Be Substantiated
When deducting these expenses in your taxes, guesses of what you spent on each event will not suffice. You must provide hard numbers in order to show the IRS exactly what occurred. This means you must hold onto and file the receipts you get after a meal or entertainment venue. Be sure to keep them well organized and in a safe place. It will save you a lot of hassle come tax time.
Be cautious with how much you spend for each business-related event. Events that are considered “lavish and extravagant” will not qualify for this deduction.
When going on extended trips, the purpose of your visit is taken into consideration. If your trip is mainly for business purposes, the majority of your expenditures will be considered for tax reduction. If you only conduct a little business on an otherwise personal trip, then only the business portion of the trip will be considered. It is very important to differentiate between the two.