Notice 2018-76, 2018-42 IRB; IR 2018-195, 10/3/2018
In a Notice and accompanying information release, IRS has provided transitional guidance on the deductibility of expenses for business meals that are purchased in an entertainment context. The Notice also announces that IRS intends to publish proposed regs on the subject and that, until those proposed regs are effective, taxpayers may rely on the guidance in the Notice.
Background. Code Sec. 162(a) allows a deduction for ordinary and necessary expenses paid or incurred during the tax year in carrying on any trade or business.
Before it was amended by the Tax Cuts and Jobs Act (TCJA; PL 115-97, 12/22/2017), Code Sec. 274(a)(1)(A) generally prohibited a deduction with respect to an activity of a type considered to constitute entertainment, amusement, or recreation (“entertainment expenses”). However, Code Sec. 274(a)(1)(A) provided exceptions to that prohibition.
Code Sec. 274(a)(1), as revised by the TCJA, generally disallows a deduction for any item with respect to an activity that is of a type generally considered to constitute entertainment, amusement, or recreation. The TCJA repealed the Code Sec. 274(a)(1) exceptions.
Code Sec. 274(k) generally provides that no deduction is allowed for the expense of any food or beverages unless (A) such expense is not lavish or extravagant under the circumstances, and (B) the taxpayer (or an employee of the taxpayer) is present at the furnishing of such food or beverages. Code Sec. 274(n) provides, subject to exceptions, that the amount allowable as a deduction for any expense for food or beverages may not exceed 50% of the amount of the expense that otherwise would be allowable.
Code Sec. 274(e) enumerates nine specific exceptions to Code Sec. 274(a). Expenses that are within one of the exceptions in Code Sec. 274(e), which may include certain meal expenses, are not disallowed under Code Sec. 274(a). However, those expenses may be subject to the 50% limit on deductibility under Code Sec. 274(n).
Reg. § 1.274-2(b)(1) provides rules that define the term “entertainment.”
IRS sets out guidance on business meals purchased in an entertainment context. The Notice and information release provide transitional guidance on the deductibility of expenses for business meals that are purchased in an entertainment context.
The TCJA did not address the circumstances in which the provision of food and beverages might constitute entertainment. However, the legislative history of the TCJA clarifies that taxpayers generally may continue to deduct 50% of the food and beverage expenses associated with operating their trade or business. See H.R. Rep. No. 115-466, at 407 (2017) (Conf. Rep.).
The Notice provides that taxpayers may deduct 50% of an otherwise allowable business meal expense if:
- The expense is an ordinary and necessary expense under Code Sec. 162(a) paid or incurred during the tax 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.
Observation: Although the Notice doesn’t directly say so, it seems clear that the above requirements are not intended to have any effect on the rules in Code Sec. 274(e). That is, an expense that meets one of the Code Sec. 274(e) rules will be 100% or 50% deductible whether or not it meets requirements set out above.
IRS also noted that because the TCJA did not change the definition of entertainment under Code Sec. 274(a)(1), the regs under Code Sec. 274(a)(1) that define entertainment continue to apply.
The Notice provides three examples. For each example, assume that the food and beverage expenses are ordinary and necessary expenses under Code Sec. 162(a) paid or incurred during the tax year in carrying on a trade or business and are not lavish or extravagant under the circumstances. Also assume that the taxpayer and the business contact are not engaged in a trade or business that has any relation to the entertainment activity.
Example 1. Taxpayer A invites B, a business contact, to a baseball game. A purchases tickets for A and B to attend the game. While at the game, A buys hot dogs and drinks for A and B.
The baseball game is entertainment as defined in Reg. § 1.274-2(b)(1)(i) and, thus, the cost of the game tickets is an entertainment expense and is not deductible by A. The cost of the hot dogs and drinks, which are purchased separately from the game tickets, is not an entertainment expense and is not subject to the Code Sec. 274(a)(1) disallowance.
Therefore, A may deduct 50% of the expenses associated with the hot dogs and drinks purchased at the game.
Example 2. Taxpayer C invites D, a business contact, to a basketball game. C purchases tickets for C and D to attend the game in a suite, where they have access to food and beverages. The cost of the basketball game tickets, as stated on the invoice, includes the food and beverages.
The basketball game is entertainment as defined in Reg. § 1.274-2(b)(1)(i) and, thus, the cost of the game tickets is an entertainment expense and is not deductible by C. The cost of the food and beverages, which are not purchased separately from the game tickets, is not stated separately on the invoice. Thus, the cost of the food and beverages also is an entertainment expense that is subject to the Code Sec. 274(a)(1) disallowance.
Therefore, C may not deduct any of the expenses associated with the basketball game.
Example 3. Assume the same facts as in Example 2, except that the invoice for the basketball game tickets separately states the cost of the food and beverages.
As in Example 2, the basketball game is entertainment as defined in Reg. § 1.274-2(b)(1)(i) and, thus, the cost of the game tickets, other than the cost of the food and beverages, is an entertainment expense and is not deductible by C. However, the cost of the food and beverages, which is stated separately on the invoice for the game tickets, is not an entertainment expense and is not subject to the Code Sec. 274(a)(1) disallowance.
Therefore, C may deduct 50% of the expenses associated with the food and beverages provided at the game.
Additional future guidance. IRS intends to publish proposed regs under Code Sec. 274 clarifying when business meal expenses are nondeductible entertainment expenses and when they are 50% deductible expenses. Until the proposed regs are effective, taxpayers may rely on the guidance in the Notice for the treatment under Code Sec. 274 of expenses for the business meals described in the Notice.
IRS intends to issue separate guidance addressing the treatment under Code Sec. 274(e)(1) and Code Sec. 274(n) of expenses for food and beverages furnished primarily to employees on the employer’s business premises.
References: For non-deductibility of entertainment expenses, see FTC 2d/FIN ¶L-2101; United States Tax Reporter ¶2744.01.
