This document is intended to be a brief summary of some of the IRS rules related to meal and entertainment (M&E) expenses you may incur in the course of doing business. Some typical examples of M&E expenses are given below, as well as a suggested process for how you may want to track these expenses in your accounting records.
DEFINITIONS
What qualifies as deductible “meals”?
Meals include amounts spent for food + beverages + taxes + related tips. Meals will fall into one of two categories.
- Meals that are related to business travel
In order for travel meals to be deductible, the travel must be typically overnight or for a length of time that would reasonably require you to stop for substantial rest or sleep. Some limitations apply. You cannot deduct the cost of lavish or extravagant meals. If the bill does not separately state the cost of meals, you must reasonably allocate the cost of meals separately from lodging or other costs.
- Meals that are for business entertainment
You may be able to deduct business related entertainment meal expenses you have for entertaining a client, customer or employee. To qualify as a business entertainment meal, the meal must meet the rules and definitions for deductible entertainment. See the discussion below:
What qualifies as deductible “entertainment” expenses?
Entertainment includes any activity generally considered to provide entertainment, amusement, or recreation. Examples include entertaining guests at nightclubs, theaters, social and sporting events. Entertainment includes the cost of a meal you provide to a customer, client or employee, whether the meal is a part of other entertainment or by itself. Examples of meals that are considered entertainment include taking a client to lunch after a business meeting, lunch with an employee to discuss a performance review, and company picnics.
For entertainment costs (and meals that fall into the category of entertainment) to be considered a deductible business expense, they must meet the IRS requirements of either the Directly Related Test or the Associated Test (summarized below). Once you have determined that the expense is deductible, then you must decide if it is fully deductible or a limited deduction.
Directly Related Test
- Main purpose of activity was the active conduct of business with another person
- During the activity, you did engage in business with the person
- You had more than a general expectation of getting income or some other specific business benefit at some time in the future
Associated Test
- Activity was associated with the active conduct of your business
- Activity was directly before or after a substantial business discussion
Deduction Limitations
There are only a couple of circumstances where entertainment expenses are fully deductible.
- Company picnics or holiday parties (when all employees are welcome).
- Occasional meals provided on the employer’s premises if more than half of the employees are provided the meals for employer’s convenience (such as meals brought in during company meetings).
All other entertainment expenses are only 50% deductible. Please see the “PROCESS” section below for some guidance on how to indicate which category you think the entertainment expense falls into.
PROCESS
How to record the deduction:
Once you have determined that the meal or entertainment is a deductible expense, then you must determine if the expense is 100% deductible or 50% deductible. To differentiate between the two, you can set up two accounts in your chart of accounts for each major category that includes M&E:
Meals and Entertainment‐100% deductible
and
Meals and Entertainment – 50% deductible
RECORDKEEPING
If you have expenses for Entertainment, then you must keep records that show details of the following four elements:
- Amount ‐ Cost of each separate expense
- Time ‐ Date of entertainment
- Place or Description ‐ Name and address or location of place of entertainment. Type of entertainment if not otherwise apparent.
- Business Purpose and Business Relationship –
Purpose: Business purpose for the expense or the business benefit gained or expected to be gained. For entertainment, the nature of the business discussion or activity. If the entertainment was directly before or after a business discussion: the date, place, nature, and duration of the business discussion, and the identities of the persons who took part in both the business discussion and the entertainment activity.
Relationship: Occupations or other information (such as names, titles, or other designations) about the recipients that shows their business relationship to you. For entertainment, you must also prove that you or your employee was present if the entertainment was a business meal.
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