IRS issues favorable guidance for deducting business meals
Notice 2018-76 clarifies the deductibility of client business meals
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On Oct. 3, 2018, the IRS issued Notice 2018-76, which provided transitional guidance on the deductibility of expenses for certain business meals under section 274.
Business meals are deductible under I.R.C. section 274(k) so long as they are not lavish or extravagant under the circumstance and the taxpayer, or an employee of the taxpayer, is present at the time the food and beverages are provided by the taxpayer. Section 274(n) provides generally that food or beverages expense deductions are limited to 50 percent and certain exceptions apply to allow certain food and benefit expenses to be deducted at 100 percent. Section 274, before amendment by the Tax Reform and Jobs Act (the Act), also provided that generally a taxpayer could only deduct 50 percent of any expense item with respect to any activity that is considered entertainment, amusement or recreation; or with respect to a facility used in connection with an entertainment, amusement or recreation activity.
As a result of the Act and for tax years beginning in 2018, Congress disallowed the 50 percent deduction for entertainment and recreational expenses, other than the section 274(e) exceptions (including the non-discriminatory employee gatherings exception). Congress also eliminated some of the exceptions to the 50 percent meals expense limitation, -including the broad exception for de minimis expenses (e.g. coffee and donuts for employees) and meals provided on the premises for the convenience of the employer. However, language from earlier IRS guidance made it unclear whether a typical business meal with a client or meals provided as part of an entertainment event would fall within the definition of entertainment and thus be fully non-deductible.
Notice 2018-76 provides interim guidance for taxpayers to clarify this issue. The Notice acknowledges that the Act did not change the definition of entertainment under I.R.C. 274(a)(1) and the regulations issued thereunder remain in place. Additionally, the guidance clarified that taxpayers generally may continue to deduct 50 percent of the food and beverage expenses associated with operating their trade or business, but added that the IRS intends to publish regulations clarifying what business meals expenses are 50 percent deductible and what business meals are fully non-deductible. The Notice also provides that the IRS is still working on guidance for the treatment of certain food and beverage provided to employees on the employer’s premises.
Importantly, the interim guidance clarifies when taxpayers may deduct business meals when customers are present. Taxpayers may deduct 50 percent of a business meal if:
- The expense is an ordinary and necessary expense under section 162(a) paid or incurred during the taxable year in carrying on any trade or business;
- The expense is not lavish or extravagant under the circumstances;
- The taxpayer, or an employee of the taxpayer, is present at the furnishing of the food or beverages;
- The food and beverages are provided to a current or potential business customer, client, consultant, or similar business contact; and
- In the case of food and beverages provided during or at an entertainment activity, the food and beverages are purchased separately from the entertainment, or the cost of the food and beverages is stated separately from the cost of the entertainment on one or more bills, invoices or receipts. The entertainment disallowance rule may not be circumvented through inflating the amount charged for food and beverages.
Note that the fifth requirement includes an anti-abuse provision to prohibit venues from shifting most of the cost away from an activity categorized as non-deductible entertainment to food and beverage costs that are 50 percent deductible.
The interim guidance provided three examples to clarify that a meals expense is 50 percent deductible if it is charged separately from the entertainment expense. In the first example, the taxpayer was permitted to deduct the cost of hotdogs and beverages purchased inside a baseball stadium. The food and beverages expense were separate from the ticket expense.
The other two examples showed that the cost of the business meal must be bifurcated from the entertainment expense. Both examples involved a taxpayer entertaining a customer at a basketball game in an arena suite. The meal expense was 50 percent deductible only when the cost of the food and beverages shown on the invoice was separately stated from the cost of the tickets to enter the arena and suite. The notice treats a non-separately stated meals expense as a disallowed entertainment expense.
The interim guidance also requested comments. Specifically, the IRS requested comments concerning whether and what further guidance is needed to clarify the treatment of entertainment expenses under section 274(a)(1)(A) and business meal expenses; whether the definition of entertainment in Regulations section 1.274-2(b)(1)(i) should be retained and, if so, whether and how it should be revised; whether the objective test in Regulations section 1.274- 2(b)(1)(ii) should be retained and, if so, whether and how it should be revised; and whether and what additional examples should be addressed in guidance. Comments are due no later than Dec. 2, 2018.
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