Business isn't conducted solely in an office. Your most important business meetings can take place at restaurants. The tax law recognizes this and permits you to deduct part of the cost of business-related meals.
Meal expenses are deductible only if they are ordinary and necessary. This means that the expense must be common, helpful, and appropriate for your business. Forget about deducting the "three-martini lunch‚" where business is never discussed. Unlike other business expenses, you can only deduct 50 percent of your business meals.
You must discuss business with one or more business associates either before, during, or after you eat. This could include current or potential:
This list includes almost anyone you're likely to meet for business reasons. Although you can invite family members or friends along, you can't deduct the costs of feeding them, except in certain limited situations. The meal must be either "directly related to" or "associated with" your business. A meal passes the directly related test if:
Example: Ivan, a sole proprietor consultant, has had ongoing email discussions with a prospective client. Ivan thinks he'll be able to close the deal in a face-to-face meeting. He chooses a lunch meeting because it's more informal. Also, the prospective client will like getting a free lunch.
He treats the client to a $50 lunch at a nice restaurant. During the lunch, they finalize the terms of a contract for Ivan's consulting services. This meal clearly led to a specific business benefit for Ivan. So, he can deduct half of the cost of both his and his client's lunch as a business expense.
You don't necessarily have to close a deal, sign a contract, or otherwise obtain a specific business benefit to get a deduction. But, you do have to have a reasonable expectation that you can get some specific business benefit through your discussions at the meal.
The directly related test can be hard to meet. It can be easier to get a deduction if a meal is "associated" with your business. You don't have to expect to get a specific business benefit from a discussion during the meal. Your business discussion can involve planning, advice, or simply exchanging useful information with a business associate. The business discussion can occur before, during, or after the meal.
Example: Mary and Jack are a wealthy couple seeking to build a fancy vacation home. They travel from their home in Boston to New York City to meet with Al, a well-known architect. The couple arrives on Tuesday evening and Al treats them to dinner at a nice restaurant that night. Mary and Jack go to Al's office to discuss the building project the next morning. Al can deduct the dinner they had the night before as a business expense.
You are allowed to deduct only 50 percent of your meal expenses, including taxes and tips. For example, if you spend $100 for a meal in a restaurant, you can deduct $50. You must keep track of everything you spend and report the entire amount on your tax return. The only exceptions to the 50 percent rule are transportation expenses to get to a restaurant. These are are 100 percent deductible.
Your meal expenses must be reasonable. The IRS won't let you deduct expenses that it considers lavish or extravagant.
There is no dollar limit on what is reasonable. You're also not barred from eating at deluxe restaurants. Whether the IRS considers your expenses reasonable depends on the particular facts and circumstances. For example, a $250 expense for dinner with a client at a fancy restaurant would probably be considered reasonable if you closed a business deal during the meal. Because there are no concrete guidelines, you have to use common sense.
The IRS can be very suspicious of meal deductions. You must keep a record of the amount spent, the time and place, the business purpose, and the business relationship of the individuals involved. For expenses of $75 or more, documentary proof receipts are required.