Settling the Tab for Entertainment Expenses

If you're like many of our friends in the legal community, a week doesn't go by before you or your partners are asked to greet contacts and business prospects over a meal or at an entertainment event. The costs associated with these functions, while a vital expenditure for the health of your practice, can also eat into your profits.

The conventional wisdom is that only 50% of the cost of routine meal and entertainment expenses is deductible. However, law and other professional service firms that spend a significant sum on these items should be aware of instances where they are fully deductible. Financial advisers can help you find them.

Did You Know?

1) The cost of company-wide recreational or social events, such as holiday parties, is fully deductible.

These events must be open to all employees and not be restricted to management or partners in order to qualify for full deductibility. You cannot have a 'partners golf outing' and expect to deduct the full amount.

2) Generating 'business goodwill' triggers a full deduction.

The cost of meals and entertainment made available to the general public for the purpose of generating business goodwill, such as the hosting of an open house promotional event, is also exempt from the 50% rule. If you are hosting a CLE seminar, for example, and providing breakfast to attendees, you are generating business goodwill, and with it a full deduction.

3) The cost of 'on-site' meals furnished to employees for the convenience of the employer is not subject to limitation.

A short on-site meal break furnished to an employee for business reasons when he or she lacks sufficient time or reasonable opportunity to eat ' on the premises or nearby ' is entirely deductible. The meal should have a valid business reason, must be for the convenience of the employer, and must be a nontaxable ('de minimis') fringe benefit.

4) De minimis fringe benefits are fully deductible.

When you purchase an occasional meal or food and beverage item ' enabling an employee to work overtime during a busy period or have a snack or beverage during a meeting or training session, for example ' you are providing a de minimis benefit and are entitled to a full deduction. However, if each employee orders a separate meal and the company picks up the tab, or if an employee works overtime regularly and is provided a meal each time, it is no longer considered de minimis.

Case Study: Townsend Industries Inc. v. United States

This case, which is instructive in the treatment of business expenses, serves as Exhibit A in why advisement on entertainment expenses is recommended.

Each summer, Townsend Industries, Inc. gathered its sales team for a two-day business meeting at its headquarters. Following the meeting, it sponsored a four-day, expenses-paid fishing trip for its sales reps and factory employees. Attendance was encouraged, but not mandatory. Business discussions were conducted on an ongoing basis and one dinner meeting was held, but workers had ample free time.

The IRS sought to tax the trip's expenses as wages, and the district court agreed.

However, the Eighth Circuit swung the pendulum the other way, citing testimony that clearly established the fishing trip's legitimate business purpose. It was ruled to be deductible as a business expense and excludable from employee compensation as a working-condition fringe benefit. Even though the trips were voluntary, some employees perceived an obligation to attend as a job duty. Moreover, business issues and problems were found to have been discussed extensively throughout the trips.

If Townsend illustrates anything, it is that you should always consult your financial advisers and allow them to sort out the fully deductible entertainment expenses from more questionable deductions. When reaching for the tab, you may be in for a bigger tax deduction than you think.

Phillip A. Bottari, CPA, is partner-in-charge of the Friedman LLP Law Firm Services Group in New York. In addition to accounting, audit, and tax services for law firms, the group tackles management issues ' from compensation and partner equity to succession planning and growth strategies ' that impact firm viability and longevity. Bottari may be contacted at [email protected].

If you're like many of our friends in the legal community, a week doesn't go by before you or your partners are asked to greet contacts and business prospects over a meal or at an entertainment event. The costs associated with these functions, while a vital expenditure for the health of your practice, can also eat into your profits.

The conventional wisdom is that only 50% of the cost of routine meal and entertainment expenses is deductible. However, law and other professional service firms that spend a significant sum on these items should be aware of instances where they are fully deductible. Financial advisers can help you find them.

Did You Know?

1) The cost of company-wide recreational or social events, such as holiday parties, is fully deductible.

These events must be open to all employees and not be restricted to management or partners in order to qualify for full deductibility. You cannot have a 'partners golf outing' and expect to deduct the full amount.

2) Generating 'business goodwill' triggers a full deduction.

The cost of meals and entertainment made available to the general public for the purpose of generating business goodwill, such as the hosting of an open house promotional event, is also exempt from the 50% rule. If you are hosting a CLE seminar, for example, and providing breakfast to attendees, you are generating business goodwill, and with it a full deduction.

3) The cost of 'on-site' meals furnished to employees for the convenience of the employer is not subject to limitation.

A short on-site meal break furnished to an employee for business reasons when he or she lacks sufficient time or reasonable opportunity to eat ' on the premises or nearby ' is entirely deductible. The meal should have a valid business reason, must be for the convenience of the employer, and must be a nontaxable ('de minimis') fringe benefit.

4) De minimis fringe benefits are fully deductible.

When you purchase an occasional meal or food and beverage item ' enabling an employee to work overtime during a busy period or have a snack or beverage during a meeting or training session, for example ' you are providing a de minimis benefit and are entitled to a full deduction. However, if each employee orders a separate meal and the company picks up the tab, or if an employee works overtime regularly and is provided a meal each time, it is no longer considered de minimis.

Case Study: Townsend Industries Inc. v. United States

This case, which is instructive in the treatment of business expenses, serves as Exhibit A in why advisement on entertainment expenses is recommended.

Each summer, Townsend Industries, Inc. gathered its sales team for a two-day business meeting at its headquarters. Following the meeting, it sponsored a four-day, expenses-paid fishing trip for its sales reps and factory employees. Attendance was encouraged, but not mandatory. Business discussions were conducted on an ongoing basis and one dinner meeting was held, but workers had ample free time.

The IRS sought to tax the trip's expenses as wages, and the district court agreed.

However, the Eighth Circuit swung the pendulum the other way, citing testimony that clearly established the fishing trip's legitimate business purpose. It was ruled to be deductible as a business expense and excludable from employee compensation as a working-condition fringe benefit. Even though the trips were voluntary, some employees perceived an obligation to attend as a job duty. Moreover, business issues and problems were found to have been discussed extensively throughout the trips.

If Townsend illustrates anything, it is that you should always consult your financial advisers and allow them to sort out the fully deductible entertainment expenses from more questionable deductions. When reaching for the tab, you may be in for a bigger tax deduction than you think.

Phillip A. Bottari, CPA, is partner-in-charge of the Friedman LLP Law Firm Services Group in New York. In addition to accounting, audit, and tax services for law firms, the group tackles management issues ' from compensation and partner equity to succession planning and growth strategies ' that impact firm viability and longevity. Bottari may be contacted at [email protected].