A Practical Guide to the 2018 Tax Cuts and Jobs Act Changes
The Tax Cuts and Jobs Act of 2017 (the Act) made some very significant changes to the deductibility of meals and entertainment expenses. The purposes of this article are to summarize those changes and to provide businesses with some guidelines for grouping 2018 (and beyond) meals and entertainment expenses based on whether they are 100%, 50%, or 0% deductible (or, in the case of certain transportation workers, 80% deductible) under the new rules. This discussion assumes that the expense in question is an ordinary and necessary business expense, and is not lavish or extravagant; if either of these criteria are not met, then the expense is automatically nondeductible.
Effective for meals and entertainment expenses incurred on or after January 1, 2018, the Act made two quite radical changes to the rules that had previously applied. First, the Act greatly expanded the restrictions on deducting entertainment expenses by simply disallowing (with a few remaining exceptions, as discussed below) any deduction with respect to any activity “of a type generally considered to constitute entertainment, amusement, or recreation,” or with respect to a facility used in connection with such an activity. Previously, entertainment expenses had generally been 50% deductible if they had been directly related to, or in certain cases associated with, the active conduct of the taxpayer’s business.
Secondly, the Act eliminated an important provision that had allowed 100% deductibility for food and beverages that are excludible from employees’ income as de minimis fringe benefits. These expenses are now only 50% deductible. A de minimis fringe benefit is one that is excludable from income because its value, after taking into account the frequency with which similar fringes are provided by the employer to the employer’s employees, is so small as to make accounting for it unreasonable or administratively impracticable. Examples of food and beverages provided to employees that can be excluded as de minimis fringe benefits are discussed below.
Meals and Entertainment Expenses That Are 100% Deductible
A 100% deduction can be claimed for meals and entertainment expenses if the expenses meet any of the following criteria:
- They are treated as taxable employee compensation;
- They are reimbursed by a third party under an accountable plan;
- They are for recreational, social, or similar activities primarily for the benefit of non-highly compensated employees (this exception does not apply to club dues);
- They are for goods, services, or facilities made available to the general public;
- They are sold in a bona fide transaction for adequate and full consideration;
- They are includible in the income of an independent contractor as compensation for services, but only if the amount is properly reported on a Form 1099-MISC if the amount is $600 or more; or
- They are provided to crew members of certain commercial ships or to workers on certain offshore oil or gas platforms (the specific rules governing this provision can be found in Code Section 274(n)(2)(C).)
Meals Expenses That Are 50% Deductible
Expenses for food and beverages are 50% deductible if they do not meet any of the criteria listed above for 100% deductibility.
As discussed above, food and beverage costs that are excludible from employees’ income as de minimis fringe benefits are now only 50% deductible. Examples of such expenses include:
- Meals or meal money provided on an occasional basis in order to help employees work overtime; and
- Food and beverages (and facilities used in connection therewith) provided on the employer’s business premises for the convenience of the employer.
Note that there are some situations that might be hard to categorize. For example, meals provided on the employer’s business premises for the convenience of the employer are generally 50% deductible. However, if the expense is for a social event primarily for the benefit of nonhighly compensated employees, it would be 100% deductible.
Meals Expenses That Are 80% Deductible
Expenses for food and beverages are 80% deductible if the food or beverage is consumed while away from home by workers during periods of time when they are subject to hours of service limitations imposed by the federal Department of Transportation. Examples of such workers include certain air transportation employees (pilots, air traffic controllers, etc.), interstate truck and bus drivers, railroad employees, and merchant mariners.
Meals Expenses That Are Scheduled to Become Completely Nondeductible Starting in 2026
The Act contains a provision stating that expenditures for the following will be completely nondeductible after 2025:
- Expenses for the operation of an on-premises facility, including costs of food and beverages, furnished primarily for employees; and
- Meals provided for the convenience of the employer
Many commenters believe that there is a good chance that future legislation between now and 2026 will override this provision, but these expenses will be completely nondeductible unless and until such legislation is passed.
As discussed above, entertainment expenses are now generally 0% deductible. There is an exception for the following types of expenses, which are still 50% deductible:
- Expenses which are directly related to business meetings of the taxpayer’s employees, stockholders, agents, or directors;
- Expenses directly related and necessary to attend a meeting or convention of an organization which is tax-exempt under Code Section 501(c)(6). Examples of such organizations are business leagues, chambers of commerce, real estate boards, and boards of trade.
The following examples are based upon the industry where I have spent the bulk of my career: in the tax department of a CPA firm.
- Because our very dedicated employees work extremely long hours during tax season, my firm (BNN) occasionally provides on-site dinners to enable these people to work overtime. Through 2017, the cost of these meals was fully deductible by BNN because the meals are a de minimis fringe benefit to our employees. Starting in 2018, this cost is only 50% deductible.
- On Tax Day (April 17 this year), each BNN office hosts a celebratory event to which all of our employees, regardless of their compensation level, are invited. Food and beverages are provided. The cost of this event is still 100% deductible, because they are for a social event primarily for the benefit of our nonhighly compensated employees.
- The question has arisen: what if a musical band were hired to play at the end-of-tax-season event? Normally, the cost of a band would be nondeductible because it is of a type generally considered to be entertainment. However, the exception for social events primarily for the benefit of nonhighly compensated employees would apply, so that the cost would become 100% deductible. This assumes that the expense complies with the overarching requirements of being ordinary and necessary, and not lavish or extravagant, which would probably rule out the deductibility of the cost of hiring the likes of Van Halen to perform at the event.
State Tax Considerations
Heretofore, this article has discussed changes to the federal Internal Revenue Code. As is the case with all aspects of the Act, it is currently unclear whether, and to what extent, state income tax rules will conform to the changes discussed in this article. While it seems likely that the states will adopt these changes, particularly because they result in increases to taxable income, it is not certain that the states will adopt them.
The tax treatment of meals and entertainment costs had remained relatively unchanged for a number of years prior to the Act, and many businesses have maintained general ledger accounts that properly categorize the different tax treatments at the time the entries are made. Those categories (primarily 0%, 50% or 100% deductible) still exist, but the criteria used to populate them has changed. Businesses should become familiar with the new treatments and adjust their accounts or methodology now, while doing so requires only a few weeks of retroactive analysis, rather than waiting a year from now (when 2018 tax returns are prepared), when the task is more formidable.
If you have any questions, please contact your regular BNN tax advisor or Drew Cheney at 1.800.244.7444.
Disclaimer of Liability: This publication is intended to provide general information to our clients and friends. It does not constitute accounting, tax, or legal advice; nor is it intended to convey a thorough treatment of the subject matter.