You likely have heard conflicting information on the deductibility of business meals with clients and prospects. I have spent time researching this issue, and my conclusion is that tax reform eliminated tax deductions for business meals with clients and prospects.
Before the 2017 The Tax Reform Act there were two conditions to client and prospect meals:
- Required you to establish that the meal was directly related to or associated with the active conduct of your business, and
- Required you to substantiate that you had a substantial and bona fide business discussion during, directly preceding, or directly following the meal
The Tax Cuts and Jobs Act repealed all the requirements above, effective January 1, 2018. The repeal means the rules that allowed the client and business meals when directly related to or associated with the active conduct of your business are now gone.
Conclusion: If the conditions required for an activity to be considered tax deductible is repealed, the deduction is repealed.
Here are some examples of the way we see business meals after tax reform:
- Sam owns a tax practice and takes Silvia, a prospect, to lunch and pays for the two of them. Now, because of tax reform, this lunch is not deductible.
- Sara and Jim are both dentists in private practice. They go to dinner to discuss a new piece of equipment that could benefit their practices. They each pay for their own meal. They get no deductions. Because of tax reform, Dutch-treat business meals are no longer deductible.
- Fred takes a client of many years out to dinner to help him with his business plans for this year. They review the plans in detail. The client picks up the tab. Fred’s client may not deduct the business meal.
To see the changes in a technical way, let’s review what tax reform did to make the business meal not deducible:
- Removed directly related and associated entertainment from IRC Section 274(a)
- Removed entertainment from the substantiation expense requirements of IRC Section 274(d)
- Removed Section 274(n)(1) from the tax code. This section applied the 50 percent rule to entertainment
I’m sure you agree with me. The loss of the meal is a sad deal. We hope that lawmakers will reconsider and reinstate the client and prospect meal deductions.
Charity Golf is Gone Too!
The tax reform did away with business tax deductions for prospect and client golf. But did you know that charity golf is gone too? Buried in tax reform is the elimination of the 100 percent business deduction for charity golf and other special charitable sporting events.
To put this into perspective, let’s say you are going with three clients to a charity golf event that’s put on by a school, church, or registered 501(c)(3) organization such as the Red Cross or a cancer society. Your package cost for the foursome is $1,000.
To put it into perspective, let’s say you are going with three clients to a charity golf event that’s put on by a school, church, or registered 501(c)(3) organization. Your package cost for the foursome is $1,000. Before tax reform, your tax deduction was $1,000, assuming you discussed business before, during, or after the event. The event was considered a business event not subject to the business entertainment tax deduction cut of 50 percent. Further, the deduction was not a charitable contribution for tax purposes, and thus you did not have to reduce your deduction under the charitable rules. This stopped on January 1, 2018.
Here is what is going to happen under the new 2017 tax reform. For you to claim any tax benefit on this $1,000 expenditure, you have to deduct the money spent under the charitable contribution rules subject to the 50% limitation rules. Here are two things that you must do to be able to deduct your charity golf expenses after January 1, 2018:
- The charity must give you a receipt that shows how much the charity realized from your $1,000 after deducting its costs (i.e. green fees, party bags, food, drinks, prizes, etc.). For example, let’s assume that the charity costs were $600 and it realized $400.
- Depending on the type of business entity you have, you likely have to write a check or make a some accounting entries for the $300 tax deduction.
For example, if you own an S corporation the $400 charitable contribution will be reflected on your K-1 and the $600 will be reflected on Form 1120S as a reconciling difference between your accounting books and tax return. Otherwise, you could reimburse the S Corporation and deal with the charitable deduction on your personal income tax return.
Most likely, you are not going to feel good about spending $1,000 to get $400 tax deduction and you are not alone. Before the tax reform, when you took the business deduction for $1,000, you were not looking for any creative ways to increase your deduction. Now you and the charitable organization are looking at a different landscape. While today I don’t have any strategies for this situation, I know over time tax strategies will come. For now I offer you this thought; What’s the value of the advertising?
Maybe the organizers of the events will be able to segregate the value of advertising your business receives from the rest of the package. The advertising cost portion, should classified on your financial statements as advertising costs which is 100% deductible.
Time will tell how this plays out. Will this make charities suffer? What we know for sure is that it will affect businesses. However, with every challenge new opportunities are presented. From the tax planning standpoint, the challenges above will create some excitement for years to come as we see actions intended to create bigger business deductions for charity golf and other charitable tournaments/events.