Often times, in the business world, companies find themselves needing to entertain prospective and current clients. With this fact in mind, the IRS has established many specific rules for tax deduction of these expenses. To ensure that these tax deductions are not abused, they have also set up several requirements governing their use.
The first requirement is that the expense be Directly Related to or Associated to your business. To be considered eligible for a directly-related tax deduction, your company must be able to prove that:
• The entertain event was held to allow of business to be conducted;
• During the event, actual company-related business was accomplished;
• The event would benefit your business in some way, whether financially, through future growth options or other similar You had more than a general expectation of getting income or some other specific business benefit at some future time.
The expense being claimed on a tax return does not have to have directly resulted in profits to be deducted.
Events must be held in a clear business setting.
One of the more effective methods of having an expense deducted is to make sure the setting of the entertainment event is considered a “clear business setting.” This small detail allows the IRS to associate the expenses for the event with your company or business. Some examples of a “clear business setting” include:
• A convention or seminar held in a hospitality room that includes the discussion of services or products relating to your business that fosters business goodwill.
• Discounting or providing free access to services or products in the name of customer loyalty, such as free meals given to frequent diners at an eating establishment.
• Providing entertainment to promote or publicize your business in situations where no non-professional relationship exists between the employees and the participants in the event. This could take the form of a show or grand opening event to which important members of a community are invited so that the new business or location can be experienced by those who might have a significant impact on the company’s growth in its early months.
Expenses that are not considered to be directly related.
There are many seemingly harmless entertainment options that are not considered by the IRS to be directly related to a business. These expenses are not deductible based on the idea that the event does not lend itself to business discussions or other financially beneficial outcomes. For example, the following situations are not considered to be directly related to a business’ needs:
• Events held at loud venues, such as sports arenas, dance clubs or theaters.
• Events held during small parties that are not primarily dedicated to business proceedings, such as dinner parties or wine tastings.
• Events that are centered around business related activities or involving people that are entirely unrelated to the business. Examples of this include golf outings, destination vacations, and meetings held at spas, athletic clubs or bars.
The Associated Test.
Many times, your events may not have the criteria to be considered directly related to your business. The associated test, however, gives companies a chance to deduct entertainment expenses that would not otherwise be acceptable. Any entertainment that is considered to be associated must take place right before a significant business discussion or immediately after said discussion and must be associated with the specific area of your business.
How to ensure the entertainment can be associated.
The association of an expense with a business is mostly based on the intent of the entertainment. If it is clear that the expense aided in fostering growth of a new business or improving connections in existing business relationships, the association is likely to be considered valid.
Determination of a business discussion’s significance.
Leaving it up to an outside organization to decide whether your business discussion was significant may seem like a strange idea. However, the IRS has guidelines in place to make this decision fair and balanced. On a case by case basis, those determining the significance of a discussion consider whether there is proof of company-related talks, negotiations or transactions that led to a beneficial outcome for your company. The remainder of the details, such as length of time business is discussed, are not important to the determination once this distinction has been made.
There are many specific rules that define eligible expenses and the steps that must be taken to properly document your expense to gain any available advantages from deducting these entertainment expenses. For more information visit IRS Publication 463 –