Small Firms Rethink Client Events After Losing Tax Break

Small Firms Rethink Client Events After Losing Tax Break

April 15, 2018

Tighter limits on deductions for entertainment and meals are prompting many business owners to cut back.

A wholesale distributor plans to replace some expense-account lunches with open houses for customers. A marketing firm has stopped reimbursing employees’ commuting expenses and is giving them raises instead. A tax-audit defense firm is giving up its season tickets to Sacramento Kings basketball games.

These are some of the ways small-business owners are responding to changes in the tax law that reduce or eliminate some popular deductions for meals, entertainment and transportation, though many of the fine points are unclear.

For instance, the changes eliminate the deduction for sports tickets, concerts and other client entertainment, and set new limits on deductions for certain employee meals. Among the uncertainties is whether companies will still be able to claim a 50% deduction for business meals with customers or business associates, or whether those expenses will be considered entertainment, which is no longer deductible. “That’s the one that has got everyone jumping up and down,” said Marianna Dyson, of counsel to Covington & Burling LLP.

The tighter limits, which take effect this year, will generate more than $41 billion in tax revenue between 2018 and 2027, according to Joint Committee on Taxation estimates. The changes were designed in part to help offset corporate tax cuts and to simplify an area that some members of Congress felt was difficult for the Internal Revenue Service to enforce.

Forty-five percent of small-business owners said they would be affected by the new limits, according to a March survey of 865 firms for The Wall Street Journal by Vistage Worldwide Inc., a CEO peer-advisory organization. Many firms said they would cut spending or make other adjustments.

Big corporations are less sensitive to the changes because the cut in the corporate tax rate to 21% lowered the deductions’ value, said Robert Delgado, head of a compensation and benefits group at KPMG LLP. Most small businesses, by contrast, are set up as limited liability companies, partnerships, sole proprietorships or other pass-through entities, which are taxed at top rates of 29.6% to 37%. Small firms also tend to operate with thinner margins and to be more sensitive to tax-rate changes.

A-Tech Consulting Inc. in Orange, Calif., won’t hold its annual client-appreciation day at the Los Angeles Angels’ stadium this year because it isn’t certain if the cost of the event, which employees also attend, is still deductible, said Chief Executive Casandra Williams. For team building, employees now serve meals once a month at a foundation that serves at-risk youth.

“We have season Rams tickets—the invoice is sitting on my desk,” said Ms. Williams, who hasn’t yet decided whether to write the check to the National Football League team. “Do we do this, or do we not? What is our return on investment?”

Joseph Hines, CEO of Voice & Data Networks Inc., a Minneapolis technology company, had to sell off extra seats when three of the six business owners who share four season tickets to Minnesota Twins baseball games bailed out because they could no longer deduct the expense. Mr. Hines said he is likely to hang onto the seats but is “very, very worried” about his ability to sell some of them. “Business appetite is low,” he said.

“Usually when we hear teams talk about an increase in nonrenewals, winning teams and big markets are immune,” said Tony Knopp, CEO of TicketManager Inc., which manages and tracks sports tickets for businesses. “We are getting calls from teams that are winning, that have huge fan bases, saying, ‘We are losing customers because of the deduction.’ ”

Some teams are exploring how they can help companies claim deductions, by separating out the costs of stadium meals held for business purposes, or sponsorship or marketing expenses such as having the company name broadcast during the game—which could still be fully or partially deductible. Teams and concert arenas in secondary markets are likely to suffer most because they depend more on sales to smaller firms, Mr. Knopp said.

Business owners also are cutting back on drinks and dining. Talent Resources , a celebrity-influencer marketing firm in New York, replaced dinners and drinks for clients with monthly “corporate mixers.” Entertainment expenses, which totaled $1 million in 2017, fell 70% in the first quarter this year versus a year ago, said CEO Michael Heller. Mr. Heller has interns plan the events and pays a bartender $100 to mix drinks for three hours, sometimes using alcohol donated by liquor-industry clients.

Mike Duncan, president of Johnstone Supply in Greenville, S.C., a wholesale distributor of heating, ventilation and other products, said he initially planned to cut back on client lunches. When salespeople objected, he decided to put more emphasis on hosting open houses and to ask manufacturers and vendors to purchase food.

The decline in corporate spending is pinching restaurant owners and caterers such as Lisa Dupar, the owner of Dupar & Co. in Redmond, Wash. “We had an absolutely dead January, February and March” for corporate catering, even though other business remained strong, she said. “When I reached out to my CPA, he said you might notice a difference.”

Some businesses owners are reshaping practices to retain tax benefits. Smart Chemical Services , an Amarillo, Texas, supplier to the oil-and-gas industry with 110 employees, will incorporate continuing education and training into employee meetings so that meals will remain deductible.

Small Army Inc., a 40-person advertising and marketing agency in Boston, in April stopped reimbursing employees roughly $110 a month for commuting expenses because the benefit is no longer deductible and instead gave each employee an annual raise of about $1,500.

“How do you justify to your board of directors that you are incurring expenses that are nondeductible?” said Mark Olander, CEO of TaxAudit , a tax-audit defense firm near Sacramento that opted not to renew season tickets for the Kings and canceled plans to buy season tickets to the Angels and the Anaheim Ducks hockey team. “I have tried it in the mirror—and can’t even do it with a straight face.”

Sources: The Wall Street Journal, Forbes, CNNMoney