1 Federal guidelines for meal and entertainment epenses Up close Ta > Federal ta > Meals and entertainment In order to deduct meal and entertainment (M&E) epenses as ordinary and necessary business epenses for income ta purposes, the IRS requires that these epenses be substantiated by adequate records. These records must include the amount of the epense, time and place, business purpose of the epense, and business relationship of the people involved while incurring the epense. Some M&E epenses are subject to a 50 percent limitation on the ta deduction, while others are fully deductible. Without proper documentation, no epense may be deducted for ta purposes. Generally, most companies do not differentiate between those epenses that are subject to the 50 percent limitation and those epenses that qualify as eceptions. The classification of M&E epenses as subject or not subject to the 50 percent limitation has a direct impact on the financial performance a company. Grant Thornton can assist you in assessing the impact of the ta laws and regulations for M&E deductions by helping you determine how to appropriately identify and classify M&E epenses as subject or not subject to the 50 percent limitation. Applicable ta law and regulations IRC Section 274(n) limits the deduction for M&E epenses to 50 percent of the amount of each epense. Section 274(n)(1) provides that no deduction for food or beverage epenses (i.e., meal epenses) or for activities generally considered to constitute entertainment, amusement or recreation epenses (i.e., entertainment epenses) may eceed 50 percent of the amount of such epense. Section 274(n)(2) however, provides certain eceptions to the 50 percent limitation. Specifically, it provides that the 50 percent limitation does not apply to: Certain epenses described in Section 274(e), which include recreational and social epenses primarily for the benefit of employees other than highly compensated employees Certain epenses for food and beverages that are ecludable from an employee s gross income as a de minimis fringe benefit under Section 132(e) Social meals and events Eamples of events that fall under IRC Section 274(e)(4) are customary employee benefit programs such as annual picnics, summer outings, retirement lunches, Contact information Mark Andrus West Regional Partner T E Joe Brown Southeast Regional Partner T E Jon Rausch Central Regional Managing Director T E Rick Stezenski Midwest Regional Partner T E Jim Wittmer Northeast Regional Partner T E
2 anniversary parties, awards dinners, as well as such fringe benefits as a swimming pool, baseball diamond, bowling alley or golf course generally made available to employees. The mere presence of a general or specific business purpose should not override a significant social purpose in determining whether a particular meal or entertainment epense qualifies as social and is therefore 100 percent deductible. Treas. Reg. Sec (f) provides that ependitures for activities made under circumstances that discriminate in favor of highly compensated employees will generally not be considered made primarily for the benefit of all employees. However, this rule will not be deemed violated merely because where there are large numbers of employees, the activity is intended to benefit only a limited number of such employees at one time, provided the activity does not discriminate in favor of highly compensated employees. Nominal food and beverages Another eample of the eception to the limitation is epenses for food and beverages that are ecludable from an employee s gross income as a de minimis fringe benefit under IRC Section 132(e). IRC Section 132(e) defines the term de minimis fringe as any property or service the value of which is (after taking into account the frequency with which similar fringes are provided by the employer to employees) so small as to make accounting for it unreasonable or administratively impracticable. Discriminatory meals and entertainment activities cannot qualify under the Section 132(e) eception; therefore, they would be subject to the 50 percent deduction limitation. A slight allowance is made for discriminatory social meals, requiring the meals to be sufficiently occasional in frequency to qualify under the Section 132(e) de minimis eception. A common eample of a de minimis food and beverage epense is buffet-style coffee or breakfast served at group meetings. This includes occasional refreshments purchased by the employer and served to various personnel or clients at meetings or occasional large group meals served at the office, conferences or seminars. Treas. Reg. Sec (b) provides some additional guidance regarding the frequency requirement for an epense to qualify as de minimis under IRC Section 132(e). According to Treas. Reg. Sec (b), frequency is generally determined by reference to the frequency with which the employer provides the fringes to each individual employee. For eample, if an employer provides a free meal in kind to one employee on a daily basis, but not to any other employee, the value of the meals is not de minimis with respect to that one employee, even though the meals are provided infrequently with respect to the employer s entire workforce. However, where it would be difficult administratively to determine frequency with respect to individual employees, the frequency with which similar fringes are provided by the employer to its employees is determined by reference to the frequency with which the employer provides the fringes to the workforce as a whole. Under this rule, the frequency with which an individual employee receives a particular fringe benefit is not relevant to the determination of whether such benefit is de minimis with respect to that employee.
3 Nominal food and beverages Under Reg. Sec (d), meals provided to an employee will qualify as de minimis if such benefit is reasonable and provided (1) on an occasional basis, (2) because overtime work necessitates an etension of the employee s normal work schedule and (3) to enable the employee to work overtime. This regulation specifically notes that meals provided on the employer s premises which meet the above three conditions are clearly de minimis. Reg. Sec (e) provides eamples of de minimis fringe benefits, including: occasional cocktail parties, group meals or picnics for employees and their guests; traditional birthday or business gifts of property to employees or clients with a low fair market value ($25 or less per person); occasional theater or sporting event tickets; coffee, doughnuts and soft drinks; and flowers, fruit, books or similar property provided to employees under special circumstances (e.g., on account of illness, outstanding performance or family crisis). The regulation also provides eamples of fringe benefits that are not de minimis, which include the following: season tickets to sporting or theatrical events; membership in a private country club or athletic facility, regardless of frequency of use; and use of an employer-owned or leased facility (such as an apartment, hunting lodge or boat) for a weekend. Treas. Reg. Sec (f) provides that the nondiscrimination rules do not apply in determining the amount of a fringe benefit, even if the benefit is provided eclusively to highly compensated employees. Group meals Business meals (i.e., non-social meals) where only employees are present may also qualify for the IRC Section 132(e) de minimis eception in certain situations. In general, large group meals should qualify for the eception because of their occasional nature and the difficulty of tracking attendance and whether a meal is actually consumed at such functions. Small group meals, so long as they are occasional in nature and the amount of the epense is not lavish or etravagant, may also qualify as de minimis because of the infrequency of occurrence and the difficulty of tracking whether a meal has been consumed. Mentoring (coaching) programs These rules can also be etended to encompass mentoring or coaching programs. The meal and especially the entertainment activities under formal and informal mentoring programs have significant social or similar purposes that qualify under the IRC Section 274(e)(4) eception to the 50 percent deduction limitation. In addition, such meals should also qualify under the IRC Section 132(e) de minimis eception because the occurrence of mentoring meals is usually relatively infrequent, i.e, such meals would typically be occasional; therefore, they could be treated as de minimis. Generally, meals to discuss career objectives or annual reviews should qualify as mentoring or development lunches and should be eempt from the 50 percent limitation. Charitable events Committee Report states that epenses for attendance at a sports event, to the etent otherwise allowable as a business deduction, are fully deductible if the event meets certain criteria
4 requirements related to charitable fundraising. In order for the costs to be fully deductible as a business epense under this rule, the event must be: organized for the primary purpose of benefiting a ta-eempt charitable organization (described in sec. 501(c)), contribute 100 percent of its net proceeds to charity, and use volunteers for substantially all work performed in carrying out the event. This rule applies to the cost of a ticket package, i.e., the amount paid both for seating at the event and for related services such as parking, use of entertainment areas, contestant positions and meals furnished at and as part of the event. The full cost of the ticket package, not just the face amount of the tickets, qualifies for the deduction. Specifically subject to limitation Certain epenses are specifically subject to the 50 percent limitation. IRC Section 274(e)(5) states that food and beverages served at business meetings of employees, stockholders, agents or directors are deductible. Section 274(e)(6) states that epenses related to meetings of business leagues, chambers of commerce, real estate boards and boards of trade are deductible. However, Section 274(n)(2)(A) does not ecept these epenses from the 50 percent limitation. Therefore, unless these epenses otherwise qualify for an eception, such as qualifying as de minimis fringe benefits under Section 132(e), the 50 percent meal and entertainment limitation will apply. Also, meals incurred due to out-of-town travel are not eempted. M&E classification categories Based on Grant Thornton s interpretations of the discussed applicable ta laws and regulations, here are some eamples of how M&E epenses can fall within one of two categories: Subject to the Limitation or Not Subject to the Limitation. Because the regulations do not always clarify what specific epenses fall into these categories, there is a possibility that a different ta treatment should apply based on different interpretations. Further, policies and procedures should be implemented in order to appropriately identify the category under which the epenses should fall. Subject to the limitation Based on our interpretation of the ta laws, some epenses can fall into different categories of eceptions. To the etent that an M&E epense does not clearly fall within one or more of the eception groups eplained below, that epense should be subject to the limitation. Not subject to the limitation Social meals and events limitation eception: Social M&E epenses for situations such as annual picnics or summer outings should qualify under the Section 274(e)(4) eception unless attendance is primarily limited to highly compensated employees. Activities whose significant purpose is recreational, social or some other similar purpose, such as networking, should qualify under the eception even if there is also a general or specific business purpose. Discriminatory social meals should be sufficiently occasional in frequency, however, so as to qualify under the IRC Section 132(e) de minimis eception. Discriminatory entertainment activities cannot qualify
5 under the IRC Section 132(e) eception and would be subject to the 50 percent deduction limitation. Nominal food and beverages limitation eception: These amounts occur in situations where the value of meals or entertainment (after taking into account frequency) is sufficiently small so that accounting is unreasonable or impractical (IRC Section 132(e)). Eamples of these epenses are buffet-style coffee, water and pastries, as well as continental breakfasts and buffet-style lunches (e.g., pizza). These types of items are considered de minimis fringe benefits. In addition, individual employee working meals, if occasional and provided to enable an employee to work an etension of their normal schedule, should also qualify for the eceptions under Reg. Sec (d)(2), e.g., meals provided on the employer s premises that are consumed during the employee s overtime period satisfy the de minimis requirement. Group meals limitation eception: Business meals (i.e., non-social meals) where only employees are present, may qualify for the IRC Section 132(e) de minimis eception in certain situations. In general, large group meals should qualify for the eception because of their occasional nature and the difficulty of tracking attendance and whether a meal is actually consumed at such functions. Small group meals, so long as they are occasional in nature and the amount of the epense is not lavish or etravagant, may also qualify as de minimis because of the infrequency of their occurrence and the difficulty of tracking whether a meal is actually consumed at the function. Mentoring (coaching) programs limitation eception: M&E activities under formal or informal mentoring programs have significant social or similar purposes that qualify under the Section 274(e)(4) eception to the 50 percent deduction limitation. While highly compensated employees may benefit to a greater etent, there is no intent to discriminate. Any such discrimination is purely a function of the nature of the program (i.e., attendance at the activities must be limited to encourage the mentoring process; mentors will participate in more of the activities than will those being mentored). Non-meal and entertainment epenses limitation eception: Because these epenses are not incurred for food, beverages or entertainment, they should not be subject to the limitation described in IRC Section 274(n)(1). For eample, travel and lodging, parking and mileage, charitable contributions, advertising, certain club dues, gifts up to $25 per recipient, and seminars and training epenses would all be considered non- M&E. These epenses should not fall under any M&E category but rather should be classified under the appropriate general ledger accounts.
6 Conclusions and recommendations IRC Section 274(n) limits the deduction for M&E epenses to 50 percent of the amount of each epense. However, there are eceptions to the 50 percent limitation provided by IRC Section 274(n)(2), such as those epenses that are primarily recreational or social in nature and are for the benefit of employees, and de minimis epenses for food and beverages that are ecludable from an employee s gross income under IRC Section 132(e). Once the epenses have been classified as subject or not subject to the 50 percent limitation, then the epenses should be posted to the appropriate general ledger accounts. Using quality assurance measures can help to ensure that epenses are entered into the correct general ledger accounts. Proper training and implementation of M&E epense guidelines can provide your company with financial benefits. Establishing a written M&E epense policy is critical to cost-containment efforts. By providing guidelines, an M&E policy can help a company control epenses up front, even before they are incurred. You can also benefit from adopting an automated accounting system for epenses, if you do not already have one in place. An automated system can help administrative assistants spend a lower percentage of their time handling paperwork generated by volumes of transportation, hotel, meal and entertainment receipts. In addition, an automated system provides managers with a reliable way to monitor whether or not employees are adhering to corporate travel and entertainment policies. A more advanced system is an M&E application hosted on a corporate intranet. With a browser-equipped computer and a network connection (no software required) employees can file their epenses anytime, anyplace. Technology allows you to map these epenses directly to the appropriate general ledger accounts ensuring that epenses are appropriately classified. Adopting written corporate policies, using automated procedures for accounting for employee ependitures and correctly classifying M&E epenses will help your company achieve financial success. Summary of ta law interpretations 50 percent deductible meal and entertainment epenses Employee business-related events Meal epenses incurred outside the office for employee or client-related business matters in restaurants, hotels, clubs, etc. Meal epenses incurred outside the office, paid for by an employee and reimbursed by the company, in the course of educational, training, industry or professional meetings Meal and entertainment recreational epenses incurred primarily for the benefit of highly compensated employees Employee out-of-town epenses Meal epenses which are not treated as compensatory to the individual Client business related-events Meal and entertainment epenses incurred during client related meetings
7 100 percent deductible meal and entertainment epenses Employee business-related events Meal epenses incurred for occasional large group in-office meetings Meal epenses incurred for occasional large group in or out of office sales or promotional seminars and meetings Meal epenses incurred for group meetings while attending conferences, seminars or training schools, paid for directly by the company Meal epenses incurred for occasional in-office working breakfasts, lunches and dinners for the convenience of the employer Buffet-style lunches, coffee, pastries, snacks and continental breakfasts for meetings served in or outside the office Meal epenses incurred for occasional overtime work Employee out-of-town epenses Meal and per diem epenses treated as compensatory to the individual Employee social events M&E epenses incurred for social or recreational purposes such as holiday parties, annual picnics, summer outings or golf outings, primarily for the benefit of employees other than highly compensated employees. Meal epenses (not including entertainment) incurred for social or recreational purposes, even if primarily for the benefit of highly compensated employees. Personnel recognition, mentoring or other miscellaneous events M&E epenses incurred in connection with a formal or informal employee mentoring program Events held on a nondiscriminatory recognizing individual or group achievements such as retirement lunches, employee anniversary parties, awards dinners or project completion celebrations M&E epenses associated with qualified charitable events (including tickets and refreshments) for employees and clients Tickets to sporting or cultural events provided on a nondiscriminatory basis to employees Food and beverage epenses of nominal value (coffee or water service, candy available to employees or customer) Other items Out-of-town travel (transportation and lodging) epenses are not subject to the 50 percent limitation and should be assigned to the appropriate general ledger travel and lodging accounts Generally club dues are not deductible by the company unless they are included in an employee s W-2 or are paid to public or professional service organizations for business purposes. Deductible dues are not subject to the 50 percent limitation on meal and entertainment epenses Room charges and audio/visual equipment for seminars, meetings and social events are not subject to the 50 percent limitation Business gifts, including flowers to customers or employees are 100 percent deductible up to $25 per person
8 Eamples of general M&E categories Types of epenses Employee business-related events Fully deductible Subject to 50% limitation Eamples Business meetings Lunch with coworker or client to discuss business Out-of-office meal while attending training or professional meeting Meal & entertainment for highly compensated employees Meal for occasional office meeting for the convenience of employer Meal for occasional large group sales or promotional meeting Meal during conferences, seminars or training schools Dinner paid for by employee and reimbursed by employer after a training seminar Dinner/entertainment eclusively for managers at country club for recreational purposes Lunch ordered for quarterly department meeting Lunch for large group during sales seminar hosted at a hotel or conference center Lunch provided by employer at training seminar hosted at a hotel or conference center Breakfast buffet hosted at conference center during a regional sales meeting Occasional in-office working meals Dinner ordered and paid for by employee while working overtime; meal reimbursed by employer Nominal food and beverages Bagels, doughnuts, coffee and juice provided during meetings or social gathering Employee out-of-town epenses Out-of-town travel not treated as compensatory Out-of-town travel treated as compensatory Reimbursement to employee not included in employee s compensation for meal epenses incurred on business trip Meal epenses incurred during a business trip included in employee s compensation Travel and lodging Mileage, airfare and hotel accommodations for out-of-town business meetings Client business-related events Client business meetings Business dinner or golf outing to develop client relationship Employee social events M&E epenses incurred for social or recreational purposes primarily for the benefit of employees other than highly compensated employees Meal epenses (not including entertainment), if for the benefit of highly compensated employees Retreats for employees to encourage team building Summer outing for employees and family Holiday party for employees and family Employee happy hour Celebratory dinner for corporate eecutives to commemorate a record-breaking year-end
9 Recognition, mentoring and miscellaneous epenses Mentoring program Mentoring lunch to discuss employee s performance Nondiscriminatory events that recognize individual or group achievements Qualified charitable events for employees and clients Tickets to sporting or cultural events provided to employees on a nondiscriminatory basis Room charges and audio/visual equipment for seminars, meetings, social events, etc., for nonentertainment Club dues included in employees compensation Dues for public or professional service organization Retirement luncheon to celebrate employee s years of service to company Employee s anniversary party with the company Reward dinners Tickets for employees or clients to professional golf tournament that benefits charity Meal tickets to a charitable dinner Tickets given to employees for celebrity golf tournament as a reward for services Room charge for using the clubhouse for professional seminar Audio/visual equipment used during a sales meeting Country club dues are not deductible if not reported as compensation to employee Social club dues are not deductible if not reported as compensation to employee Dues paid to legal or accounting association, Kiwanis or Rotary Club Note: These are general guidelines that may vary based upon individual facts and circumstances. Ta professional standards statement This document supports Grant Thornton LLP s marketing of professional services and is not written ta advice directed at the particular facts and circumstances of any person. If you are interested in the subject of this document we encourage you to contact us or an independent ta advisor to discuss the potential application to your particular situation. Nothing herein shall be construed as imposing a limitation on any person from disclosing the ta treatment or ta structure of any matter addressed herein. To the etent this document may be considered to contain written ta advice, any written advice contained in, forwarded with, or attached to this document is not intended by Grant Thornton to be used, and cannot be used, by any person for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.
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