Can You Still Deduct Entertainment Expenses?

The Tax Cuts and Jobs Act (TCJA) of 2017 significantly changed deductible business expenses. For the 2023 tax year, taxpayers need a clear understanding of what qualifies for a deduction, especially concerning entertainment expenses. While many previous deductions were eliminated, this article clarifies the conditions under which certain entertainment and related expenses remain deductible.

General Rule for Entertainment Expenses

As a general rule, entertainment expenses are no longer deductible for tax purposes following the TCJA. This means businesses cannot deduct costs associated with activities considered entertainment, amusement, or recreation. Such activities include taking clients to sporting events, golf outings, theater shows, or hunting trips. Even if these activities are directly related to business discussions, their costs are explicitly non-deductible. The IRS defines entertainment broadly, encompassing any activity generally considered to provide amusement or recreation, including expenses for facilities like renting a skybox or membership dues for social or athletic clubs.

Specific Deductible Expenses

Despite the general non-deductibility of entertainment, several specific exceptions allow for deductions. Each exception comes with its own set of conditions and deductibility percentages.

Business Meals

Business meals can be 50% deductible if specific criteria are met. The meal must not be lavish, and the taxpayer or an employee must be present. Food and beverages must be provided to a current or potential business customer, client, consultant, or similar business contact. If a meal is part of an entertainment event, only the food and beverage portion may be 50% deductible, provided its cost is stated separately from the entertainment on the bill.

Recreational, Social, or Similar Activities for Employees

Expenses for recreational, social, or similar activities primarily for the benefit of employees are 100% deductible. This includes holiday parties, company picnics, or summer outings. The primary benefit must be for employees generally, not just highly compensated employees, owners, or executives. Maintaining facilities like a swimming pool or golf course for employee recreation also falls under this category.

Expenses Treated as Compensation

When an employer pays for an employee’s entertainment and treats it as compensation, the expense becomes 100% deductible for the employer. This requires the entertainment’s value to be included in the employee’s gross income and reported on their Form W-2. The employer must also pay applicable Federal Insurance Contributions Act (FICA) taxes on this amount. This exception shifts the tax burden to the employee, making the expense fully deductible for the business.

Items Available to the General Public

Expenses for items made available to the general public are 100% deductible. This includes providing free samples, promotional items, or holding events open to the public to promote goodwill. The item or service must be genuinely available to a broad audience, not just a select group of business contacts. This allows businesses to deduct costs associated with broad marketing and public relations efforts.

De Minimis Fringe Benefits

De minimis fringe benefits are those whose value is so small and infrequent that accounting for them is unreasonable or impractical. These benefits are 100% deductible for the employer and generally not taxable to the employee. Examples include occasional coffee, donuts, soft drinks, or infrequent employee parties. Cash or cash equivalents, such as gift cards, are typically not considered de minimis fringe benefits.

Expenses Incurred for Business Meetings of Employees, Stockholders, Agents, or Directors

Expenses for facilities or activities primarily used for business meetings of employees, stockholders, agents, or directors are 100% deductible. This includes renting a conference room or providing meals during a bona fide business meeting. The primary purpose of the gathering must be for conducting business, rather than entertainment. This ensures legitimate operational expenses for internal business functions remain deductible.

Required Documentation for Deductions

Meticulous record-keeping is imperative for any business expenses claimed as deductions. The Internal Revenue Service (IRS) requires taxpayers to substantiate these expenses to prevent disallowance during an audit. Without proper documentation, a business risks losing eligible deductions and potentially facing penalties.

For each deductible expense, taxpayers must maintain records that include the amount, time, place, and specific business purpose. Records must also identify the business relationship of the person(s) entertained or receiving the meal. Receipts are generally required for expenses of $75 or more, detailing the date, place, and type of expense, along with the business purpose and relationship. Even for expenses under $75, keeping a written record or log is advisable.