ALERT 2-16-18: Re-think general ledger accounts due to changes in the deductibility of entertainment expenses in 2018.
by Gregory S. Dowell
The new tax act (Tax Cuts and Jobs Act) was passed so late in December that very few business owners have had the opportunity to absorb some of the impacts. One of the changes for businesses was the complete disallowance of entertainment expenses as tax deductions. Under prior law, a business could deduct 50% of the amount it spent on entertainment. For instance, if a business owner or a salesperson bought tickets to a sporting event as a way to entertain a client or a prospect, under the old law 50% of the expense could be deducted for income tax purposes. Under the new law, none of that expense would be deductible.
While this change is effective for 2018 expenses, assuming that there is no action needed for a business until the end of the year is a mistake. With the new tax act in mind, businesses need to consider the changes that need to be made right now in the way that entries are recorded in the accounting records. In light of the above, a business should be very careful that it has examined all of its expenses and made correct categorizations in its general ledgers.
In many cases, a single event could contain many different types of expenses. For instance, think of a case where a business owner might buy a suite at a baseball game to hold an event for an elite group of customers. The cost of the event would include the cost of admission to the event, but would also include food and beverage, as well as banners and other promotional materials, and perhaps might include travel expenses to attend the event. While the cost of the admission to the baseball game would be nondeductible under the net tax act, the food, beverages, banners, promotional items, and travel expenses would remain as deductible business expenses. Hastily booking the entire event under “entertainment” on the books of the business could cause the total cost of the event to be considered as nondeductible, which is clearly not the correct outcome. Again, it is important to make sure that accurate allocations are made on a contemporaneous basis in the business’ accounting records. Waiting until year-end to clean these things up will lead to errors and missed opportunities.
As another example, under the new tax act, 50% of the amount that is spent on food and beverage consumed by employees on work travel is deductible. These expenses should be allocated to a separate general ledger account so that the correct deduction can be determined at year end.
We suggest that every business should at least consider the following with regard to 2018 transactions:
- Create a new general ledger account, in which only the clearly non-deductible entertainment expenses will be entered. This would include the client entertainment expenses referenced in the above example.
- Create a new general ledger account (or adapt the old account), in which the 50% deductible entertainment expenses will be allocated, primarily the expenses for clients’ meals and employee meals while travelling.
- Carefully comb through all expenses and make certain to separate any deductible advertising, marketing, or travel expenses from non-deductible entertainment expenses.
It is not a perfect world – Congress passed this act too late in the year to give business owners the time to make thoughtful changes to their processes for 2018. As soon as possible, however, businesses should go back and consider how these expenses have been recorded in their accounting records since January 1, 2018. Another reminder is that there are inconsistencies in the tax act that can only be clarified by technical corrections, revenue rulings, court cases, and the like. Even though your re-allocations may need to be tweaked at a later date if clarifications are made, the value of these efforts will not be wasted.
We hope this information is useful to you. If you have any questions, please contact your professional at Dowell Group.