By Joyce M. Rosenberg
The Associated Press
NEW YORK - Taking clients or customers out for dinner or giving them gifts are standard ways for a small-business owner to cement relationships. Dealing with such expenses on your income-tax return isn't always a straightforward process.
The IRS has very different rules for how much you can deduct for meals and entertainment, and how much you can deduct for gifts.
For meals and entertainment, the general rule is that you can deduct 50 percent of what you spend on restaurant dinners or taking clients to shows or sporting events - as long as the expense can be considered an ordinary and necessary part of doing business.
For gifts, you can deduct $25 per recipient per year. That means if you give one client two gifts for $25 each, or a total of $50, you can only deduct $25.
There are a few loopholes and pitfalls to look out for.
If you're traveling or attending a trade show and take a client out for dinner, you are permitted to deduct 100 percent of the check, said Bill Egan, a certified public accountant with Egan & Associates in Pittsburgh.
And if the entertainment is a company party for employees that you also invite clients to, you can deduct the full cost of that event, Egan said. The party doesn't have to be on company premises.
Some of the pitfalls include the fact that you can't deduct just any activity as entertainment. "It has to be in an environment that's conducive to doing business," said Dennis Kroner, a CPA and financial planner with Pitt Ryan & Linnear in Chicago.
So dinner at a restaurant is deductible, and a round of golf probably is, too. But Egan noted that events such as plays might not be.
The problem will come up if you're audited. The Internal Revenue Code isn't always clear on tax issues, and it's up to the IRS examiner to determine whether it was appropriate for you to take a client to a play for business reasons.
You might find in such a situation that the examiner allows you to deduct half the amount of dinner before the show, but not the tickets. Of course, you can always appeal the examiner's finding.
Another gray area is whether tickets to an event such as a baseball game or play that you give a client should be listed on your return as a gift or entertainment.
Egan said it might take a reading of some tax court rulings to figure that out. "I've read things going both ways," he said.
Perhaps the most critical part of deducting meals, entertainment and gifts is documentation. Egan noted that you technically don't need receipts for meals or entertainment that cost less than $75, but to be on the safe side, keep your receipts for everything. If you don't get one, create a log - something you need to do anyway for all your business expenses - and record it.
Egan strongly advises business owners to immediately write on the back of the dinner check or ticket receipt the name of the client and to give specifics of what was discussed - for example, a particular project or order.
The 50 percent limit on entertainment deductions goes back to the 1986 tax reform act.
But Kroner noted that the $25 limit on gifts has been part of the tax code for decades. Congress has never chosen to raise the limit. "The rules are rather arcane," he said.
Still, there are some ways to increase your deduction. Kroner noted, for example, that if you give employee or customer incentive awards, you can deduct up to $400 per year - that's a total of $400 for your entire business.
Let's say you have a restaurant, and you give a free dessert to regular customers for each 10 meals they have. You can deduct up to $400 of the costs of those desserts. The same applies to $20 gift certificates you might give to your highest-producing salespeople.
Another idea: Instead of sending one big gift to a client's firm, send smaller ones. You can deduct only $25 for a $200 food basket, but if you send four $50 baskets, you can give yourself a $100 deduction.
Region, CEOs team up to play growth game
CincyTech nurturing businesses
Pairing turned profitable
Failed system still ripples
Huge firm not immune to disputes
Dreams contained no more
Eat your veggies, and focus
Look Who's Talking: Sandra A. Butler
Opportunity session for Kroger project
Meetings this week
Rules vary on entertaining clients