Deductions for business meals and entertainment expenses require you to jump through a couple extra hoops to qualify as deductible and they may be subject to limitations. Nevertheless, if you pay careful attention to rules outlined below, the expenses should qualify as deductible.
- (1) Ordinary and necessary business expenses.All business expenses must meet the general deductibility requirement of being “ordinary and necessary” in carrying on the business. These terms have been fairly broadly defined to mean customary or usual, and appropriate or helpful. Thus, if it is reasonable in your business to entertain clients or other business people you should be able to pass this general test.
- (2) “Directly related” or “associated with.”A second level of tests specially applicable to meals and entertainment expenses must also be satisfied. Under them, the business meal or entertainment must be either “directly related to” or “associated with” the business.
- (3) Almost as important as qualifying for the deduction are the requirements for proving that it qualifies. The use of reasonable estimates isn’t sufficient to stand up to IRS challenge. You must be able to establish the amount spent, the time and place, the business purpose, and the business relationship of the individuals involved. Obviously, you must set up careful and detailed record-keeping procedures to keep track of each business meal and entertainment event and to justify its business connection. For expenses of $75 or more, a receipt is required.
- (4) Deduction limitations.Several additional limitations apply. First, expenses that are “lavish or extravagant” aren’t deductible. This is generally a “reasonableness” test and doesn’t impose any fixed limits on the cost of meals or entertainment events. Expenses incurred at first class restaurants or clubs can qualify as deductible.
More importantly, however, once the expenditure qualifies, it is only 50% deductible. Obviously, this rule severely reduces the tax benefit of business meals and entertainment. If you spend about $50 a week on qualifying business meals, or $2,500 for the year, your deduction will only be $1,250, for tax savings of around $300 to $400. If you have questions, please Contact Us.