The tax reform law introduced as the Tax Cuts and Jobs Act (TCJA) made significant changes to deductions for meals and entertainment expenses. Before TCJA, most meals and entertainment expenses were 50 percent deductible, but the new law curtailed their deductibility. The determination is particularly challenging for events that are both business-related and entertainment-related, such as management retreats.
What Changed Under the TCJA
In a major change from previous practice, entertainment expenses will be completely nondeductible under the TCJA, and many meals expenses that were formerly deductible in full will be 50 percent deductible. There are specific exceptions to this rule described in Code Section 274(e), Disallowance of Certain Entertainment, Etc., Expenses that companies will need to evaluate for their 2018 tax planning.
For example, business meals provided for the convenience of the employer, occasional employee meals, employee overtime meals, and office coffee and snacks are now only 50 percent deductible, whereas before the TCJA they were 100 percent deductible. Such meals will be nondeductible after 2025 unless Congress revisits the issue.
Entertainment expenses to benefit employees (such as holiday parties) are still 100 percent deductible. Although impractical in many cases, other employee entertainment expenses remain fully deductible if they are included in taxable compensation of an employee or if the employee reimburses the expenses.
So where does that leave management retreats? That all depends on the facts and circumstances, and whether the management retreat is primarily for business purposes or entertainment purposes.
Management Retreats for a Business Purpose
The TCJA repeals the deduction for business entertainment expenses, and generally preserves deductibility for business meals. Remember that entertainment expenses typically associated with company holiday parties and summer picnics that are for the benefit of employees remain deductible, and these will be discussed later. Regarding management retreats that do not fit that description, companies that can demonstrate a business purpose will likely be able to deduct some of their costs associated with the retreat, but there are some nuances.
In order to deduct entertainment expenses under prior law, companies would have had to demonstrate that the expense was directly related to, or associated with the active conduct of a trade or business, or for the production or collection of income. According to the IRS, business meals with clients under the TCJA remain deductible so long as several conditions are met, such as being otherwise deductible under Code Section 162. Meals at a management retreat held primarily for business purposes could be considered “business travel” meals under Section 162, or they could also meet the “meals incurred while at a seminar or conference” exception defined in Section 274. Travel to and from the primarily business retreat would also be deductible in this case.
A company’s assertion that its management retreat is primarily for business purposes is insufficient; the IRS will want to see evidence of that. Substantiating the “primarily for business purposes” standard may be difficult. There are some elements of a business-oriented event that businesses can incorporate into their management retreats to support their business case for deductible travel and deductible business meals.
Hiring external professionals to serve as the “retreat leader” and to assist with management strategies could be considered an indicator that the retreat is primarily for business. The cost of the retreat leader may also be partially deductible.
A written agenda that articulates the business activities to be conducted, and that distinguishes them from other personal activities, could help substantiate the business nature of the management retreat.
An example of an agenda used to substantiate business versus personal might look something like this:
- Day 1: Developing strategic goals, succession plans, growth and JV strategies, and determining realistic time lines – Conference Room B (Business)
- Day 2: Hiking and social activities day (Personal)
- Day 3: Brainstorming solutions, implementation strategies and documenting results – Conference Room B (Business)
- Day 4 Golf outing and socializing (Personal)
- Day 5 Returning home (Business)
The agenda shows that three out of five days (or approximately 60 percent of the retreat) are for business-related activities, so the retreat could be considered a retreat primarily held for business purposes. Remember that this is the standard for domestic travel; there are different standards for foreign travel.
Evaluate All Activities
Splitting a retreat into business activities and personal activities is necessary to claim other deductions as well. This documentation is used to quantify the partially deductible business costs, such as meals, from the nondeductible personal costs (personal costs may be 100 percent deductible if they are included in an employee’s taxable compensation). In order to substantiate a deduction for business meals, businesses will need documentation that indicates the amount of the business meal expenditure, the time, date, and place of the expenditure, the business purpose of the expenditure, and the identification of the people who participated.
A documented, reasonable allocation method may suffice in lieu of day-by-day substantiation for business-related travel and meals expenditures. The company in the example could use the following reasonable allocation method for its management retreat costs:
Three out of five days are business related, or 60 percent. Under a reasonable allocation method, this business percentage is applied to substantiate the portion of lodging and meals costs as business related, with the balance of non-business costs separated into another general ledger account. This remaining 40 percent could also be treated as personal compensation.
Management Retreats Primarily for Entertainment Purposes
As stated previously, entertainment costs incurred primarily for the benefit of employees (such as holiday parties, summer picnics, and similar events) remain 100 percent deductible. Hence, retreats that are primarily for entertainment purposes may still be deductible. In order for the retreat to meet that classification, though, it would need to be open to all employees. A retreat purely for officers, highly compensated employees, or more than 10 percent owners would not qualify for the 100 percent deduction.
A company’s unique facts and circumstances will be essential in determining which management retreat expenses are deductible under the TCJA changes. An experienced tax provider can help evaluate the costs and their appropriate designations. For more information about business meals and entertainment expenditures, please contact your local CBIZ tax professional.
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