Players in the real estate industry have long incurred meal and entertainment expenses while conducting business. But in recent years, there’s been some confusion about what’s deductible and what’s not, given that the Tax Cuts and Jobs Act (TCJA) placed some new limits on the meal and expense deduction beginning in 2018. Now the deduction for qualifying meals has temporarily increased to 100%, and some IRS guidance has provided more clarity on the TCJA’s limits.
Increased Meals Deduction
Deductions have generally been permitted for business-related food and beverage expenses as long as the expenses weren’t lavish or extravagant under the circumstances, and the taxpayer (or an employee of the taxpayer) was present when the food or beverage was furnished. If those requirements were satisfied, the taxpayer generally could deduct 50% of the expenses.
Under the Consolidated Appropriations Act (CAA), signed into law in December 2020, taxpayers may deduct 100% of expenses for business meals as long as the expense is for food or beverages provided by a restaurant. The use of the word “by” (rather than “in”) a restaurant appears to mean that the new rule isn’t limited to meals eaten on the restaurant’s premises — that takeout and delivery meals provided by a restaurant are also fully deductible.
The catch: This 100% deduction is temporary; it’s allowed for expenses paid or incurred in calendar years 2021 and 2022 only.
Elimination of Entertainment Deduction
Before the TCJA, taxpayers generally could deduct 50% of entertainment expenses “directly related to” or “associated with” actively conducting business.
The TCJA, signed into law in 2017, generally prohibited deductions for expenses related to entertainment, even those directly related to or associated with conducting business. Many taxpayers interpreted the provision to also prohibit deductions for meal expenses.
In response to the confusion, the IRS released guidance in 2018 listing circumstances where a business could continue to deduct 50% of meal expenses.
Meals vs. Entertainment
The IRS released final regulations in 2020. They clarify that the term “entertainment” doesn’t include food or beverages unless the food or beverages are provided at or during an entertainment activity.
However, taxpayers can deduct even those if their costs are separately purchased or separately stated from the entertainment costs on a bill, invoice or receipt. The amount charged for food or beverages must reflect 1) the venue’s usual selling cost for those items if purchased separately from the entertainment, or 2) the approximate reasonable value of the items.
The final regs reiterate the requirements that a food and beverage expense not be lavish or extravagant and that the taxpayer or an employee be present. They also mandate that the items be provided to the taxpayer or a “business associate.”
The latter is defined as a person the taxpayer could reasonably expect to engage or deal with in business, such as a customer, client, supplier, employee, agent, partner or professional advisor. The inclusion of employees means the deduction is available for employer-provided meals and situations where a business provides meals to both employees and nonemployee business associates at the same event.
Finally, keep in mind that even when the 50% business meal deduction was in effect, it generally didn’t apply to reimbursed food and beverage expenses or food and beverage expenses related to recreational, social or similar activities for employees, such as holiday parties, annual picnics and summer outings that don’t favor highly compensated employees. These expenses were already fully deductible.
Tread Carefully
The 100% meal expense deduction will provide some welcome tax savings to real estate businesses in 2021 and 2022. But distinguishing between deductible meal expenses and nondeductible entertainment expenses can still be tricky. When in doubt, contact Abbott, Stringham & Lynch’s Real Estate Group, who will also be keeping an eye out for any new IRS guidance on these expenses.
Sidebar: Some Entertainment Expenses Are Deductible
The 2020 regulations on meal and entertainment expense deductions don’t just cover what taxpayers can’t deduct. The rules confirm that various exceptions to the disallowance of entertainment expense deductions continue to apply, such as:
- Expenses treated as taxable compensation,
- Expenses reimbursed under a reimbursement or other expense allowance arrangement,
- Recreational expenses primarily for employees, subject to exceptions if those activities discriminate in favor of certain categories of employees, such as highly-compensated employees,
- Expenses directly related to business meetings of the taxpayer’s employees, stockholders, agents or directors,
- Expenses directly related and necessary to attendance at a business meeting or convention of certain tax-exempt organizations (for example, business leagues, chambers of commerce, real estate boards, and boards of trade),
- Expenses for goods, services, and facilities made available by the taxpayer to the general public (such as at an open house), and
- Expenses for goods, services, and facilities that are includible in the gross income of a non-employee recipient, as compensation for services rendered or as a prize.