Although employees who substantiate their business meal and entertainment expenses are usually reimbursed 100%, your corporate deduction for those expenses is limited to 50%. Final regulations assign this so-called deduction disallowance to the party—the employer, the employer’s agent or someone else—who actually bears the expense. The regs became effective Aug. 1, 2013, but you may apply them for any tax year for which the statute of limitations has not expired. (78 F.R. 46502, 8-1-13)
Two-party arrangements. Substantiating business expense reimbursements between employers and employees is fairly straightforward and the regs don’t change those rules. The regs clarify that independent contractors and their clients can negotiate who will bear the 50% deduction disallowance.
Three-party arrangements. Things are stickier when a third party, such as an employee leasing company, enters the picture. For three-party arrangements, the regs require a two-step process:
- Analyze the arrangement between the employee and the initial payer.
- Analyze the arrangement between the initial payer and the third party.
Example: Speedy leases employees to Acme. The contract requires Acme to reimburse Speedy for employees’ substantiated meal expenses. Two outcomes are possible, with Acme on the hook each time:
- The contract between Speedy and Acme doesn’t specify the party that is subject to the 50% disallowance. Employees account to Speedy for their traveling expenses. Speedy sends Acme copies of employees’ receipts, along with a statement showing the reimbursed amounts. Result: Employees and Speedy have established a reimbursement arrangement (Step 1), as have Speedy and Acme (Step 2). Since Speedy accounts to Acme for employees’ expenses, Acme bears the 50% deduction disallowance.
- The contract requires employees to account directly to Acme, which reimburses them. Result: Acme again bears the 50% deduction disallowance because the reimbursement arrangement is a classic two-party arrangement.
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