Business Entertainment: What’s Deductible?

Is the cost of entertaining your clients tax-deductible?  It depends.  

Deductions are generally limited to 50% of the cost, although there are exceptions to this rule. 

Under long-standing rules, entertainment expenses may be deducted only if the entertainment is “directly related to” or “associated with” your business. 

To be directly related to your business, you must show that:

• The main purpose of the combined business and entertainment was the active conduct of your business
• You engaged in business with the person during this time
• You had more than a general expectation of deriving income or some other specific business benefit at some future date

It’s far more common to deduct entertainment that is associated with your business.  In this case, you must show a clear business purpose for the expense, such as generating new revenue or strengthening an existing business relationship.

A taxpayer qualifies for deductions if the entertainment takes place on the same day as a substantial business discussion.  If the client or customer is from out of town, the entertainment may occur on the day before or after the substantial business discussion.

Note that the IRS may object to deductions for entertainment expenses that it deems “lavish or extravagant.” 

As strict record-keeping requirements are in force for this type of deduction, taxpayers should be certain to document expenses in an account book, diary, log, trip sheet or similar record.  The retention of other documentary evidence to support deductible expenses, such as receipts, canceled checks or bills is also important.

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