TaxTalk From the NASE's TaxTalk Consultants TaxTalk, an exclusive NASE benefit, is available free to Members on the NASE Web site. Just click here for more details. How To Mix Business With Pleasure And Still Get A Write-Off A jumble of laws and complicated rules sometimes make entertainment expenses tough to determine. To help you simplify the process of calculating deductible entertainment expenses, here are straightforward explanations and examples adapted from the popular book Taxes For Busy People (McGraw-Hill, 1998, softcover, 202 pages, $14.95) by Robert A. Cooke, a Certified Financial Planner and CPA. The Business Tests The law and the IRS set up two tests, one of which must be passed if you are to legally deduct the cost, or part of the cost, of the entertainment. Directly-Related-To-Your-Business Test To pass this test, you need to show that: The main purpose of the entertainment was the active conduct of business; You engaged in a business discussion with the person you were entertaining during the entertainment; You had more than a general expectation of getting a business benefit or income from the entertainment. The entertainment that most easily passes this test is a quiet business meal during which you can carry on a bona fide presentation, contract negotiation, or otherwise discuss business. In fact, the IRS considers that entertainment where there is distraction cannot be considered “directly related” entertainment expense. So, if you entertain at a nightclub, theater, sporting event or a social gathering, the IRS considers that you have not engaged in entertainment that is directly related to your business. Also, the IRS considers that entertainment on hunting or fishing trips, yachts, or pleasure boats is not directly related to your business. While you can argue specific circumstances with the IRS, the burden of proving that the entertainment was directly related to your business is on you. If you don’t pass this “directly related” test, does that mean that you’re out of luck for a deduction? Not really. You may qualify for the other category, which is: Associated-With-Your-Business Test To pass this test: The entertainment must directly precede or follow a substantial business discussion. If the entertainment takes place on the same day as the discussion, the IRS says that it meets the “directly precede or follow” requirement. If the entertainment is on a different day, you must have good reasons for that situation. Example: You entertain business associates and their spouses from out of town on the night before or the night after the business meeting. The IRS accepts this as “directly preceding or following” a business discussion. The discussion must be substantial, but it does not have to be longer than the entertainment. The discussion must have a goal of obtaining business or gaining some specific business benefit. Lavish Entertaining Lavish entertaining is not deductible. The facts and circumstances determine what is lavish. If you spend an unbelievable amount on an entertainment event, put a memo in your file that explains why you need to entertain in this manner, such as “large order is at stake” or “only form of appropriate entertainment available in locality.” Conventions as Entertainment Here is one place the IRS gives you the benefit of the doubt. If you attend a business convention or a meeting sponsored by a trade or business association, the IRS presumes you have met the requirement for a substantial business discussion. The sponsoring organization must schedule a program of business activities that is the main thrust of the meeting, and obviously you must attend the activities. Example: If you meet a business associate at a convention, or take him or her there, and invite that person to dinner, you’ll probably have little argument from the IRS when you treat the cost of the dinner as entertainment expense. Your Spouse (or Significant Other) at an Entertainment Function You might think that the expenses of your spouse or your business associate’s spouse attending an after-business entertainment function would not be a legitimate deduction. Thankfully, this isn’t the case. The law says spouses must have a business reason for attending, and in this case the IRS does interpret the law realistically. Example: Your customer always includes his or her spouse in evening activities. When you invite your customer to the dinner theater, you obviously have to invite the spouse. Because the customer’s spouse is included, you must include your spouse. Technically, the IRS says that the entertainment of both spouses is an ordinary and necessary business expense. Percentage Limitation of Entertainment Expense As for meals while traveling, only 50 percent of entertainment expense is deductible. Watch your computation if part of the expense does not qualify as deductible entertainment expense. Example: You entertain a client and spouse, and you take your spouse. You also take your brother-in-law, who has no business reason to be there. Deduct the nonbusiness expense before computing the 50 percent deduction. Example: Five people entertained at $100 each $500 Subtract one person not business-related -100 Business entertainment expense 400 Subtract 50 percent -200 Deductible expense $200 Return to the table of contents

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