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October 1, 2020

IRS Eases Prohibition on Deducting Employee Meals

Tax Scheme

The IRS finalized regulations Wednesday on changes to the treatment of business entertainment expenses made in the 2017 federal tax overhaul, easing a proposed restriction on deducting meals provided to employers that had been criticized as too harsh.

The Internal Revenue Service's final rules address an exception to Internal Revenue Code Section 274  , which generally limits business expense deductions for qualified food and beverage expenses to 50%. Employers can fully deduct the expense of meals provided to employees as long as the value of those food and beverage costs is included in the employees' gross income, even if the costs of the meals exceed the value included in the employees' income, according to the regulations.

In the proposed rules, the IRS said that a business would be entirely disallowed from taking a deduction for meals provided to employees if it were found to have improperly reported the value of the meal expenses in its gross income. Public comments on the rules, though, said such an approach would go too far.

"The Treasury Department and the IRS agree that the 'all or nothing' rule included in the proposed regulations may lead to unduly harsh results," the final rules said.

The IRS proposed the rules in February, having announced the development of the guidance back in 2018. The 2017 Tax Cuts and Jobs Act   eliminated the business deduction for activities considered entertainment but did not address when the provision of food and beverages would constitute entertainment.

The finalized rules provide that a 50% deduction still applies for food and beverage purchases that can be separated from entertainment expenses for business purposes and clarify which kinds of business meal transactions qualify for the limited tax break, according to the regulations.

For those meal expenses indistinguishable from entertainment expenses, a deduction under Section 274 is disallowed, according to the regulations.

In response to comments received after the proposal of the rules, the IRS clarified that indirect costs related to a business meal expense such as transportation to and from that meal would not be deductible, according to the final regulations.

The deductible meal expense must be for a purchase between the taxpayer and someone the taxpayer could presumably conduct business with, the IRS said. The IRS better defined who a "potential business contact" would be in a deductible business meal expense in the final rules after a comment suggested the wording was too vague, according to the regulations.

The IRS said in the final rules that deductible meal expenses separate from an entertainment activity must reflect the actual prices separate from the entertainment. If those are unavailable, the IRS said, such expenses must reflect an estimate of the reasonable value of those purchases to avoid businesses inflating the cost of food and beverages to account for entertainment expenses.

The regulations also explain the requirements for meal expenses to qualify for the 50% business expense deduction, stating that they must "not be lavish or extravagant under the circumstances, and the taxpayer, or an employee of the taxpayer, must be present at the furnishing of the food or beverages."

The rules also address how the deduction can be claimed for travel expenses, clarifying a limitation on the deduction for those food and beverage purchases that occur on business travel with others. In addition, the rules detail how the regulations apply to other meal expenses, which are mostly subject to the 50% limitation.

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