[1]Businesses, including sole proprietors, are normally allowed to deduct only 50% of their meal and entertainment expenses. The reason is because the IRS believes that taxpayers benefit personally from the amount of meal and entertainment expenses they claim as deductions, and therefore the IRS automatically throws out 50% of these expenses.
Fortunately, there are exceptions to the 50% rule. If any of these exceptions are met, taxpayers may deduct up to 100% of their meal expenses.
- Recreational or social meals – These include expenses related to recreational, social, or similar activities incurred primarily for the benefit of employees (e.g., company picnics, holiday parties). If these events are only held for highly compensated employees, they will not qualify under this exception. This exception only applies to employees; it does not apply to independent contractors.
- Meals for the general public – Examples of this exception include free hotdogs and popcorn at a grocery store. The exception also applies to food provided to potential customers as part of a sales presentation (e.g., a free meal provided by a real estate broker to potential real estate investors). This exception does not apply if the meals are provided on an invitation-basis only and not otherwise available to the general public.
- Department of Transportation meals – Individuals whose work is subject to the hours of service limitations of the Department of Transportation (e.g., interstate truckers, certain railroad employees) can deduct 80% of their food expenses.
- Meals treated as compensation to employees – Meals that are included in an employee’s W-2 as wages are not subject to the 50% limitation by the employer. The employer will claim a 100% deduction for the meal expenses as a payroll expense. However, if the employee tries to deduct the meal expenses, they will be subject to the 50% limitation.
- Meals reimbursed under an accountable plan – When an employee or independent contractor is reimbursed for meal expenses by a business owner under an accountable plan, the employee or independent contractor will not include any of the meal reimbursement as income (i.e., 100% of the meal reimbursement is excluded from income). However, the employer will be limited to a 50% deduction for the meal expenses that it reimbursed.
- Meals for nonemployees who receive a form 1099 – When a business provides a meal to a nonemployee and issues the nonemployee a Form 1099 for the value of the meal, the business can obtain a 100% deduction for the meal cost. An example would include a business that holds a raffle and the winner receives a free dinner for himself and his family valued at $500. If the business issues a Form 1099 reporting the $500 as income to the winner, the business can obtain a $500 deduction.
- Meals during a move that are reimbursed by the employer – An employer may obtain a 100% deduction for meal expenses she reimburses an employee during a move required for employment or business reasons.
- Meals sold by a business – This exception is a technical exception to prevent businesses such as restaurants and daycare centers that sell food from being disallowed a valid deduction for cost of goods sold.
Meal and entertainment expenses for some business can be substantial. If a business incurs any of the above expenses, they should be accounted for separately from meals that will be subject to the 50% disallowance rule. Please contact your ShindelRock tax professional [2]if you have any further questions.