Broker Check

Tax Deduction or a Red Flag?

Howard Hook, CFP®, CPA Quoted in AskNJMoneyHelp.com
January 18, 2016

The Question: My wife and I own a small business, and our accountant says we can deduct when we go to dinner together because we talk about work a lot. Isn’t that a red flag for the IRS?
— A little nervous

The Answer: It may be a red flag, but it may also be a legitimate business expense.

IRS Publication 334, “Tax Guide for Small Businesses,” states: “To be deductible, a business expense must be both ordinary and necessary. An ordinary expense is one that is common and accepted in your industry. A necessary expense is one that is helpful and appropriate for your trade or business.”

Meals are considered part of entertaining expenses, said Howard Hook, a certified financial planner and certified public accountant with EKS Associates in Princeton.

For meals to be deductible, Hook said, the meal must meet either meet the “directly related test” or the “associated test.”

“The `directly related test’ states that the meal took place in a clear business setting or either 1) the main purpose of the meal was business related or 2) you engaged in business during the meal or 3)there was an expectation of getting a business benefit,” Hook said.

The `associated test’ is met if the meal is associated with your business or the meal was directly before or after a substantial business discussion, Hook said.

Finally, the meal needs to be reasonable and not lavish.

“Due to the vagueness of the IRS definition of business expenses and the two tests it would seem that the deductibility is open to interpretation and could be a red flag,” Hook said. “Like any other business expense proper documentation should be kept which substantiates your position so if audited you can attempt to defend your position.”