Tax reform upended the expensing rules for meals and entertainment deductions, but confusion remains.
Since the passage of the Tax Cuts and Jobs Act (TCJA), taxpayers have been asking if business meals are still deductible business expenses. This question is the result of the law specifically disallowing business deductions for activity that constitutes entertainment, amusement, or recreation — while continuing to allow a 50 percent deduction on business meals. Which raises the question: Is a meal itself considered entertainment, and therefore disallowed under the new rules?
This article examines the definition of entertainment for tax purposes and the impact of the new entertainment expense disallowance on the deductibility of business meals.
Meals and entertainment before tax reform
Meal and entertainment (M&E) deduction
Taxpayers used to be able to deduct 50 percent of the costs of meals and entertainment directly related to or associated with business. In addition, there were several exceptions that allowed taxpayers a full or partial deduction for meals and entertainment expenses. These exceptions included:
- Food and drink furnished on the business premises primarily for employees
- Entertainment and meals that the employee reports as compensation (e.g., a company-provided vacation)
- Reimbursed expenses (e.g., expenses paid or incurred by an employee for entertainment, amusement, recreation, food, or beverages in connection with their work performance for the employer, under a reimbursement or other expense allowance arrangement)
- Nondiscriminatory recreational or social activities, including facilities primarily for employees (e.g., holiday party, a summer golf outing)
- Entertainment and meals at business meetings of employees, stockholders, and directors
- De minimis meals, qualified employer cafeteria expenses, and convenience of employer meals
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Application of “directly related” and “associated with” tests
Historically, business meals have been 50 percent deductible if the cost of the meal is an ordinary and necessary business expense, the food and beverages provided by the taxpayer are not lavish or extravagant under the circumstances, the meal is either directly related to or associated with substantial business discussions, and the business owner or an employee is present at the time the food and beverages are furnished.
The term “entertainment” means any activity which is generally considered to constitute entertainment, amusement, or recreation. The IRS uses an objective test to determine if an activity is entertainment. Examples include entertaining at night clubs, cocktail lounges, theaters, country clubs, golf and athletic clubs, sporting events, and on hunting, fishing, vacation, and similar trips. Also, entertainment can include expenses that satisfy the personal, living, or family needs of an individual.
A “directly related” meal and entertainment expense meant an activity where the taxpayer had an expectation of a business benefit, included actual discussion of business during the activity without substantial distractions, and the primary purpose of the activity is business. For an illustration, see example A:
Example A — Directly Related
Scenario:
XYZ Corporation provides a hospitality room at a trade convention. Food and beverages are served and XYZ's products are on display.
Tax treatment:
The hospitality room is a business setting for XYZ’s business for the purpose of displaying its products. The room and the food and beverages meet the “directly related” test and are 50 percent deductible.
An “associated with” meal and entertainment expense meant that such expenses were deductible if a substantial and bona fide business discussion took place immediately preceding or following the entertainment activity. For an illustration, see example B:
Example B — Associated With
Scenario:
Andrew of ABC Partnership takes a client to a theatrical performance. Two hours before the theatrical performance, Andrew takes the client to dinner so they can discuss a current project.
Tax treatment:
The theatrical performance satisfies the “associated with” test because the entertainment activity followed a bona fide business discussion, even if no business discussion occurred during the performance itself.
Treatment after tax reform
Repeal of the entertainment expense deduction
In December 2017, Congress finally repealed the meals and entertainment deduction that had been scrutinized since the 1960s as an area of potential taxpayer exploitation. Beginning in 2018, the 50 percent deduction for the cost of entertainment directly related to or associated with business is repealed.
Taxpayers may no longer deduct any entertainment expenses, including meals that constitute entertainment. The IRS has not provided guidance on the definition of entertainment-related meals and the law does not repeal the 50 percent deduction for a business meal. The dilemma for taxpayers is distinguishing an entertainment-related meal from a business meal. The following example illustrates the dilemma.
Example C — Entertainment-Related Meals
Scenario:
Emily, the owner of ABC Corp., takes client to a professional baseball game and pays for a meal during the game. During the game and the meal, Emily and the client have a great discussion about a current project as well as a few projects they may work on together in the future.
- Are any of the costs (tickets, meal) deductible by ABC Corp.?
Tax treatment:
- Cost of baseball tickets: considered an entertainment expense and therefore no longer deductible.
- Cost of the meal: Some tax practitioners believe that the cost of the meal is not deductible as an entertainment-related meal. Other tax practitioners believe that the following factors would support a deduction of 50 percent of the cost of the meal in this example:
- Meal is not lavish or extravagant
- A substantial business discussion took place during the meal
- There was a business purpose for the meal
- The cost of the meal was not included in the cost of the game tickets
- An owner of the business was present during the meal
Summary of changes to the M&E deduction
| Meal Expenses | Pre-TCJA Deduction Allowed |
Post-TCJA Deduction Allowed |
|---|---|---|
| 1. Food and drink “snacks” furnished on the business premises primarily for employees |
100% | Not clear, but likely 50% (nondeductible in 2025) |
| 2. Reimbursed expenses | 50% or 100%* | No change |
| 3. Meals as part of nondiscriminatory recreational or social activities (e.g., holiday party, a company picnic) | 100% | No change |
| 4. Meals during business travel (traveling for business while away from home) | 50% | No change |
| 5. Meals at business meetings of employees, stockholders, and directors | 50% | No change |
| 6. Costs of food made available to the general public (e.g., hot dogs and soft drinks at a grand opening) | 100% | No change |
| 7. Costs of meals sold to public | 100% | No change |
| 8. De minimis meals, qualified employer cafeteria expenses and convenience-of-employer meals | 100% | 50% (nondeductible in 2025) |
* 50% deductible for person paying the reimbursement, e.g., the employer or other service recipient; 100% deduction for employees (or independent contractors) providing services to a company other than the employer and adequately accounting for the meal expense.
We will have to wait for guidance to have any degree of certainty, but it is reasonable to expect that business meals will continue to be deductible as long as they are in a restaurant setting and possibly those meals that are separately charged and incurred before, during, or after an entertainment event. You should consider whether any meal or entertainment expenses are fully deductible under one of the exceptions to the general rule.
How we can help
We recommend that you update your general ledger accounts to separately track non-deductible entertainment expenses, 50 percent deductible meal expenses, and 100 percent deductible meal and entertainment expenses. CLA federal and state and local tax professionals are following developments on this and other tax reform issues, and will publish updates as IRS guidance clarifies meal and entertainment expense deductibility.