Entertainment, Meals, Gifts and Lodging — Deduction and Recordkeeping Requirements (Portfolio 520)

Description

Bloomberg Tax Portfolio, Entertainment, Meals, Gifts and Lodging — Deduction and Recordkeeping Requirements, No. 520, explains the substantive and procedural rules for deducting the costs of business entertainment, gifts and meals, and for excluding from an employee’s income the value of meals and lodging provided by the employer. This Portfolio contains an exhaustive analysis of the limitations imposed by §162 and 274, as well as by other relevant statutory, regulatory, and case law limitations, on deductions for the costs of entertainment and gifts, as well as expenses for meals and unreimbursed employee business expenses. This Portfolio also analyzes the problems which arise in the context of determining whether a particular expense is a personal or business expenditure and whether an expense is deductible by the employer or by the employee incurring the cost. Additionally, this Portfolio discusses the impact of tax withholding on business expenses.

Finally, because it is imperative that the taxpayer claiming the deduction of an expense be capable of substantiating the various elements of the expense, this Portfolio discusses in detail all relevant recordkeeping and reporting requirements. A detailed examination is also made of §119, under which an employee may exclude from income certain meals or lodging provided by the employer.

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Table of Contents

DETAILED ANALYSIS —

I. Expenditures for Business Entertainment and Meals, Entertainment Facilities, and Club Dues

A. Introduction

B. Overview of Requirements for Deductibility

1. Substantive Prerequisites

a. Threshold Characterization as “Ordinary and Necessary”

b. Limitations Imposed on §162 and §212 Deductions by §274

(1) Background to Enactment of §274

(2) Basic Pattern of §274

2. General Substantiation and Recordkeeping Requirements

3. Percentage Limitations and Other Restrictions on Deductibility of Costs

a. Amounts Paid or Incurred After December 31, 2017

b. Amounts Paid or Incurred Before January 1, 2018

C. Satisfying the Substantive Requirements for Deductibility

1. Substantive Tests for Entertainment and Meal Costs

a. Statutory Pattern

b. Definition of “Entertainment” and “Meals”

(1) What Are “Entertainment” and “Meals”

(2) Distinguishing “Entertainment Facilities”

(3) Distinguishing Travel and Transportation Expenses

(4) Distinguishing “Gifts” from Entertainment and Meals

c. Who Qualifies as a Recipient

d. Meeting the “Directly Related” or “Associated With” Tests

(1) What Constitutes “Directly Related” Entertainment or Meals

(a) “Active Business Discussion” Test

(i) Proximity

(ii) Active Conduct of Business

(iii) Principal Aspect

(iv) Exclusion of Nonbusiness Guests

(b) “Clear Business Setting” Test

(c) Nonemployee Compensation

(d) Pre-1994 Club Dues Allocable to Business Meals

(2) What Constitutes “Associated With” Entertainment or Meals

(3) Combined “Directly Related” and “Associated With” Entertainment

2. Limitations Upon Deductions for Costs of Entertainment Facilities and Club Dues

a. Entertainment Facilities

(1) In General

(2) Costs “With Respect to” Entertainment Facilities

(3) Effect of Disallowance of Deduction

b. Nondeductibility of Club Dues

(1) General Rules

(2) Exclusion as Working Condition Fringe Benefit

3. Statutory Exceptions to Limitations Upon Deductions for Costs of Entertainment, Meals, and Entertainment Facilities

a. Overview

b. Specific Exceptions

(1) Food and Beverage for Employees

(2) Entertainment Expenses Treated as Compensation

(3) Reimbursed Expenses

(4) Recreational Activities for Employees

(5) Business Meetings

(6) Meetings of Business Leagues

(7) Items Available to the Public

(8) Entertainment Sold to Customers

(9) Expenses Includible in Income of Nonemployees

II. Substantiation, Reporting, and Recordkeeping Requirements Relating to Expenses for Entertainment, Meals and Entertainment Facilities

A. Historical Background

B. Substantiation Under §274(d)

1. Elements of an Expenditure

a. Entertainment and Meals

b. Entertainment Facilities and Club Dues

c. Travel and Transportation

d. Overlapping Transportation and Entertainment Expenditures

2. Separate Expenditures; Aggregation of Expenditures

3. Burden of Proof

C. Acceptable Methods of Substantiation

1. Background

2. “Adequate Records”

a. Diaries and Account Books

b. Documentary and Electronic Evidence

c. Permissible Simplified Substantiation

(1) Standard Meal and Incidental Expense Allowance

(a) General Rule

(b) Transportation Industry

(2) Daily Allowance in Lieu of Lodging and Meals

(a) Overview

(b) Choice of Alternative Allowance Methods

(c) Advantages to Use of Foregoing Methods

(3) Mileage Allowance Methods

(4) Sampling Technique

(5) Standard Meal and Snack Rate for Family Day Care Providers

(6) Employer-Provided Cell Phones

d. Other Sufficient Evidence

e. Special Rules for Federal Employees

f. Relief Provisions

(1) Substantial Compliance

(2) Exceptional Circumstances

(3) Loss of Records

D. Reporting and Recordkeeping Requirements

1. Reporting of Reimbursements and Advances

a. Statutory Pattern

b. Requirements for Accountable Reimbursement Arrangements

(1) Business Connection

(2) Substantiation

(3) Returning Excess Amounts

c. Employer Reporting Requirements

d. Employee Reporting Requirements

(1) Accountable Plans

(a) General Rules

(b) Specific Applications

(i) Expenses Equal to Reimbursements

(ii) Expenses Less Than Reimbursements

(iii) Expenses Exceed Reimbursements

(2) Nonaccountable Plans

2. Bearing the Burden of the Recordkeeping Requirements

a. When Upon Employer

b. When Upon Employee

c. When Upon Independent Contractor

3. Permissible Employee Business Expenses

4. Retention of Records

5. Withholding Requirements

E. Restrictions Upon the Deductibility of Entertainment and Meal Expenses That Otherwise Conform to the Substantive and Recordkeeping Requirements

1. Subjective Restrictions on Personal Benefit

a. “Lavish or Extravagant” Expenses

b. Taxpayer’s Personal Expenses

(1) Permissive Deductibility of Taxpayer’s Individual Costs Incurred in Business Context

(2) Nondeductibility Limited to Instances of “Abuse”

(3) Specific Instances of Deductibility of Taxpayer’s Individual Costs

(a) Meals with Co-Workers

(b) Substantial Employer-Imposed Restrictions

(c) Statutory Exclusions Under §119 and §132

(i) Exclusion Under §119 for Meals and Lodging

(ii) Exclusion Under §132 for Fringe Benefits

(4) Costs Attributable to Spouse

(5) Entertainment or Meals in Taxpayer’s Home

2. Objective and Fixed Limitations

a. 50% Cutback for Entertainment and Meal Costs

(1) Amount Subject to Cutback

(2) Meals in Travel Status

(3) Exceptions to Cutback Percentage

(4) Reimbursement and Per Diem Arrangements

(5) Interplay with Other Limitations

(6) Effective Dates

b. Cost of Skyboxes

c. Limitation of Deduction of Cost of Tickets to Face Value

d. Requirement of Taxpayer’s Presence at Entertainment and Meals

(1) Meals

(2) Entertainment

e. 2% Floor for Unreimbursed Employee Business Expenses

(1) Summary of Limitations

(2) Categorization of Miscellaneous Itemized Deductions

(3) Application of 2% Floor to Pass-through Entities

(4) Limited Exceptions to Applicability of 2% Floor

f. 3% of AGI Ceiling on Itemized Deductions (“Pease” Limitation)

3. Expenditures Contrary to Public Policy

a. Background

b. Illegal Bribes and Kickbacks

c. Lobbying Expenses and Political Contributions

F. Effect of Expense Disallowance

1. Disallowance Under §162

a. Effect on Employer

b. Effect on Employee

2. Disallowance Under §274

a. Policy of Single Disallowance

b. Possibility of Double Disallowance

III. Business Gifts

A. Definition of “Gift” in Business Context

B. Statutory Limitations on Deductibility of Business Gifts

1. Restrictions of §274(b)

2. Gifts Not Falling Within §274(b)

3. Overlapping “Gift” and “Entertainment” Expenditures

4. Overlapping “Gift” and “Charitable Contribution” Expenditures

C. Exceptions to Statutory Restrictions for Certain Gifts to Employees

1. General Rule

2. Recognition of Employee Accomplishment

a. Employee Achievement Awards

b. Prizes and Awards Under §74

3. Gifts of Nominal Value

4. Union Benefits

5. Survivor’s Benefits

D. Substantiation Requirements

IV. Meals or Lodging Furnished to an Employee

A. General

B. Background to Enactment of §119

C. Requirements for Exclusion

1. “Convenience” of the Employer

a. Meals

b. Lodging

c. Effect of Compensatory Purpose

2. “Condition of Employment”

3. “On the Business Premises” of the Employer

a. In General

b. Perimeter of or Adjacent to Business Premises

c. Functional “Business Premises”

d. Branch Offices

e. Business Premises of Policemen

f. Individuals Residing in Camps Abroad

g. Employees of Certain Educational Institutions

4. “Furnished” by the Employer

a. In Kind Requirement

b. Election to Take in Kind or in Cash

c. Furnished at a Charge

(1) Background

(2) Meals

(3) Lodging

d. Furnished by Party Other Than Employer

5. Employment Relationship

a. Who Qualifies as an “Employee”

(1) General Tests for Exclusion

(2) Members of Employee’s Family

b. Who Qualifies as an “Employer”

6. Exclusion for Items Related to Use of Meals or Lodging

a. Uncooked Food and Groceries

b. Nonfood Items

D. Business Expense Deduction for Cost of Meals or Lodging

1. By Employee

2. By Employer

a. Amounts Paid or Incurred After December 31, 2017

b. Amounts Paid or Incurred Before January 1, 2018

E. Employment Tax Requirements

F. Provisions Other than §119 Relating to Meals and Lodging

1. Meals

a. Supper Money

b. Employer-Operated Eating Facilities

c. On-Duty Meals

d. Police Subsistence Allowance

e. Pre-§132 Administrative Exemptions

2. Exclusionary Provisions for Lodging

a. Parsonage Allowance

b. Faculty Housing

3. Exclusionary Provisions for Living Costs

a. Military Personnel

b. U.S. Employees Abroad

c. Casualty Loss Living Expenses

d. Pre-§132 Administrative Exemptions

TABLE OF WORKSHEETS