The winter holidays are fast approaching, and employers across the country are preparing for their yearly office parties. If you’re thinking of celebrating your workplace, you might be eligible for more tax deductions than you realize.
Are company holiday parties tax-deductible? The simple answer is yes, as long as they meet a specific set of criteria.
What Makes a Holiday Party Tax-Deductible?
First, the target recipient of the party matters. Under the law, entertainment expenses like parties should be primarily beneficial to non-highly compensated employees. A non-highly compensated employee is anyone who does not meet the following criteria:
- Highly compensated: They earn $130,000 or more per year.
- 10% owner: This is someone who owns 10% or more of your company.
- Relative: They are a family member or direct descendant of a 10% owner.
If an employee meets any of the above criteria, they are not a non-highly compensated employee. You can still invite them, but make sure you extend that invitation to all your staff.
The following employee appreciation events are 100% tax-deductible according to the IRS:
- Holiday parties
- Annual picnics
- Summer outings
Because these events are “de minimis” fringe benefits, they’re too small to be taxable. Other de minimis fringe benefits include holiday gift baskets, meals for employees working overtime and snacks for the office.
As long as you invite the right people, offer these events only on special occasions and are smart about your expenses, you’ll be able to deduct the entire cost of the event in your taxes.
How to Keep a Company Party Tax-Deductible
Here are our top three tips for keeping your company party tax-deductible.
1. Limit the Guest List
Invite all your employees and their family members or significant others. Employee parties thrown primarily for the benefit of non-highly compensated employees are 100% tax-deductible. Restricting celebrations to specific departments or top-paid employees is a discriminatory practice that can affect your office holiday party deduction.
Bringing in business associates will affect your ability to take office party deductions. Due to the meals and entertainment limitation, you can only deduct 50% of the costs from non-employees at a non-business party.
To clarify, this limitation does not apply to employee family members or significant others, who are still 100% deductible.
You can write off customers or business partners as deductions as long as you can prove that the party serves a business purpose. For example, a product reveal or business-relevant discussion must take place at some point during the party. Holiday parties should be a fun celebration for your staff. Business discussions might come up anyway, but it’s best to leave the client invitations for another event.
2. Keep It Simple
You’re less likely to be able to deduct a lavish party from your taxes. Keep the party as modest as possible, and host it on-site if you can. Off-site parties are more likely to create tax risks than simple office parties.
But what counts as lavish? The IRS bases that decision on each business’s circumstances. Typical market prices play into this determination, as well.
For example, if you purchased expensive fountain pens for your office when you could have bought standard ballpoint pens for much less, the IRS would prevent you from writing it off as a tax deduction because it is an extravagant purchase.
Similarly, suppose a small business chooses to throw a huge party at a glamorous hotel, complete with expensive door prizes and a decadent meal. The IRS is unlikely to approve this party as a tax deduction because it would be unreasonable for a company their size.
Here’s another reason you should keep your parties simple — a lavish party might put off your employees. It might make them wonder why you’re so willing to spend so much on a one-time event but not on other things like raises. Giving your employees a great time is the goal, but you have to stick to your budget.
3. Document Everything
When it comes to taxes, you should have a copy of everything related to what you’re trying to deduct. Create a category for it in your chart of accounts using a label that makes sense. For example, appropriate categories could be labeled “Strengthening Employee Relationships” or even just “Team Building.”
Keep a copy of the invitation to protect your business in the event of a future audit. Other documents you should hold onto include:
- Guest list
- Expenses list
- Receipts, checks and evidence of money you spent
- Your reason for hosting the party
The IRS requires that your party occurs for an “ordinary and necessary” reason. This reason can be anything from “celebrating an important deal” to “improving team relations.” As long as it shows that the party was a necessary expense, the IRS should approve it.
If you invited people who are not non-highly compensated employees, it would help to organize your guest list according to their role. Creating subsections such as the following can make the process much easier:
- Employee relatives
- Business partners
Holding on to these documents can provide you with protection if your workplace undergoes a tax audit. Additionally, it will provide your accountant with the information they need to help you deduct as much as legally possible.
Tax professionals can help you make sure everything is in order in case an audit occurs. Working with a representative can help you organize your tax package and secure your rights if the IRS attempts to take more than what you owe.
Tax law has some exceptions. Here’s some extra information you should know about deducting taxes from office holiday parties:
- Family businesses: If all your employees are family members, your party will not be tax-deductible. Under the law, individuals like spouses and children are also an owner of the business. Even if they’re your only employees, you would be throwing a party for company owners.
- Catering: As of December 2020, the Consolidated Appropriations Act (CAA) states that food and beverage purchases from restaurants are 100% deductible throughout 2021 and 2022. This act makes an on-site office party with catered food even more cost-effective. The rule applies to all restaurants, but it’s best to exercise discretion when choosing a caterer to avoid appearing extravagant.
- Independent contractors: Independent contractors are not employees, so you will only be able to claim a 50% deduction on their costs. To keep things deductible, invite your independent contractors to another event.
For more assistance navigating the ins and outs of meals and entertainment tax deductions, reach out to a tax attorney or accountant. They can help you make sure you’re completing your taxes on time with no fuss.
Make Your Company Party Tax Deduction Easy With Polston Tax
If you’re preparing to throw a holiday party for your employees, you should know how much you can legally write off as a tax deduction. Contact Polston Tax Resolution & Accounting to schedule a free consultation, or call us at 844-841-9857 today! We’ll help you sort out your taxes so you can enjoy the festivities with your team.