In the run up to Christmas, many business owners and their staff are preparing to do the time-honoured client entertaining that always goes on at this time of year – Christmas parties, lunches and dinners, drinks and Christmas presents.
In January, they will then face the raft of supplier invoices, employee expense claims and receipts generated by this festive season entertainment. So it’s not surprising that the common question we’re asked by many clients around this time is, “how much of this can I claim as an income tax deduction?”
Unfortunately, providing a simple answer is often not that easy, thanks to the ATO’s often complex policies on employee and client entertainment.
What is entertainment?
Entertainment is defined as entertainment provided to clients and/or employees by way of food, drink or recreation. Generally, the ATO treats client entertainment expenses as non-deductible. Where employees are concerned, these expenses will likely be subject to Fringe Benefits Tax (FBT) and if so, it will be tax deductible.
As you can already see, entertainment is a confusing area. To help, consider the following:
What are the circumstances?
It is important to understand the circumstances in which the food and drink are provided. If you serve basic food (sandwiches) and drink (tea, coffee, water) to refresh employees and clients during a meeting at your office, this activity and its associated costs are generally not considered entertainment.
Note that the more ‘meal’ you provide the more chance it will be classed as entertainment. If so, the portion of costs associated with the client is not deductible; however the portion of the expense relating to the employee will be subject to FBT and tax deductible (the extent to which depends on the FBT method chosen to apply to entertainment).
Where you provide the food and drink is also important in determining if it is entertainment. As mentioned, light meals in your office during business hours will generally be deductible and not considered entertainment. However, food or drink bought for clients in a cafe, restaurant or hotel outside office hours is less likely to involve work-related activities and more likely be classed as entertainment.
This unfortunately torpedoes the idea of claiming for lunches and dinners to celebrate the end of the year with clients. Providing tickets to sporting events, theatres, etc will be considered entertainment.
How about end of financial year and end of calendar year parties?
It’s worth noting that costs for the most common events at this time of year – end of year parties – are most likely subject to FBT as employees are usually involved. Entertainment expenses that are taxable FBT expenses are income tax deductible. Do not let this lull you into a false sense of security, as the FBT costs will most likely outweigh the income tax deduction!
However, entertainment costs associated with Christmas parties can be exempt from FBT if the event is classed as a ‘minor and infrequent benefit’.
There are complex rules around establishing this, but the first thing you need to do is determine if the cost per head is less than $300. Then ask yourself: how often do we put on parties like this? If the Christmas party is the only party you throw for the year, it would be classed as infrequent. If this is the case then it’s possible to claim an FBT exemption and there will be no income tax deduction.
Top tips for making claims easier
So what can you do to make claims for these expenses easier for you and your accountant? Here are some suggestions:
Track what’s happening: the most important tip is to keep detailed records of your entertainment expenditure. Make sure you keep track of how often you entertain and how many people are involved. What is the common mix of clients to employees? How often do you entertain and what are the most common types of events – dinners, sporting events, quick sandwich lunches? How often are these events held on your premises or at another venue? Knowing these things makes it easier for you and your accountant to work out what can be claimed and the best FBT methods to use.
Consider alternatives to entertainment: if you are concerned about the cost of entertainment and your ability to recoup these expenses, think about gifts to clients such as a hamper, bottle of whiskey, wine etc. These will be deductible, as long as it is with the view that the gift will benefit your own business. Also consider small gifts for employees (less than $300), as an alternative. Generally, you can claim the cost of employee gifts as an income tax deduction (as long as the gift does not form entertainment).
Consult your accountant: when in doubt, check with your accountants! They can guide you through the complex maze of claiming expenses and also provide you with a clearer picture of how best to manage your entertainment expense claims in the year ahead.
Understanding how to handle these expenses is an important part of running a business. But it’s also important to remember that your primary reason for entertaining is to thank, reward and celebrate with clients and employees. Take the opportunity to enjoy these events, build or renew relationships, and celebrate the year’s achievements with those who support you in your business.
Chris Maher is a partner at Marin Accountants, a firm specialising in advice for individuals, investors and family businesses.