The tax treatment of food and drink you incur in your business will affect your tax position. If you can tax deduct food and drink as a business expense without incurring FBT, you will save a lot of tax. The problem is that the rules around entertainment are confusing.
Tax Treatment of Food and Drink
The tax treatment of food and drink depends on whether those expenses count as a business expense or as entertainment.
Business Expense v Entertainment
Food or drink is not necessarily entertainment. You can provide food or drink without providing entertainment. It can be a business expense.
s32-10 ITAA97 defines entertainment as ‘entertainment in the way of food or drink’ and s136-1 of the FBT Assessment Act (FBTAA) adopts that definition, but nobody says anywhere that the consumption of food and drink is always and every time without fail entertainment. It all depends.
If something is indeed entertainment, then it is a fringe benefit when provided to employees.
Business Expense
Business expenses are good. When your costs for food and drink count as a business expense, you get a tax deduction per s8-1 ITAA97. You get an input tax credit (“GST credit”) per Div 11 GST Act. And there is no FBT, even when you wine and dine employees.
Entertainment
When the food and drink doesn’t count as a business expense, then it is entertainment. You can’t claim a tax deduction for any entertainment per Div 32 ITAA97.
Fringe Benefit
Any benefit you provide to employees or their associates directly or through an arrangement in relation to their employment is a fringe benefit. And so entertainment provided to employees is a fringe benefit.
A fringe benefit might be subject to fringe benefit tax (FBT). But not always. There are quite a few exemptions in the FBT Act. So if an exemption applies, you don’t pay FBT on that value.
When you pay FBT on an expense, you can claim a tax deduction. Div 32 ITAA97 doesn’t apply to any expenses you pay FBT on. And you also get the GST credit since GST just follows income tax.
If a benefit is exempt from FBT, then you don’t have to pay FBT. But then you also don’t get the tax deduction and GST credit.
Scenarios
How you pay and for whom matters. When you think about it, there are six scenarios where you might pay for food and drinks.
# 1 You might buy the food or drink and give it as a gift. Anything you give to keep or consume later is a gift. The wine bottles employees took home. The little lolly bags you handed out at a client event. The restaurant vouchers clients took back to their office.
# 2 Then there are events. You might invite your clients or team to a cafe or restaurant and pay the bill. Think of staff lunches, business dinners, Christmas parties. Think of restaurants, cafes and social venues and the taxi ride to get there.
# 3 Then there is travel. Your employees or others might pay for restaurant bills and room service using the business’ credit card while travelling overnight.
# 4 You might reimburse your employees or others later after they present you with the restaurant bills and hotel invoices.
# 5 You might pay your employees a travel allowance to spend on food and drinks as they see fit.
# 6 And you might pay a Living-From-Home-Allowance (LAFA) that covers meals but usually also accommodation when you send an employee on a secondment.
These are the six ways you might pay for food and drinks. And you now need to work out what counts as a business expense and what counts as entertainment. That is the hard part.
# 1 Gifts
Anything you give to keep is a gift. Examples are wine bottles, spirits, boxes of chocolates and restaurant vouchers.
Business Expense
Any gifts of food and drink to former or current clients are a tax-deductible business expense thanks to TD 2016/4. There are just four caveats. 1) You must carry on a business. 2) The gift must be to produce future assessable income and and not exempt income or NANE. 3) It must not be a personal gift to family or friends. And 4) it must not be of a capital nature.
For gifts to others – think of suppliers, advisers, competitors – you need to go back to s8-1 ITAA97. If you necessarily incurred the expense in carrying on your business to produce assessable income, you can claim a tax deduction as long as there is no other provision that prevents this deduction.
Fringe Benefit
Any gifts of food and drinks to employees are a property fringe benefit and as such are either an in-house or external fringe benefit. In-house means you manufacture, produce or sell the goods you gave them.
Calculate for each employee how many fringe benefits (not just food and drinks) they received from you in that year. If the total is less than $300 for an employee, their gifts are exempt from FBT (minor benefit rule). And the first $1,000 taxable value of in-house fringe benefits provided to an employee during the year is also exempt from FBT.
For the rest you will probably pay FBT on the gross-up value.
Non-Deductible Expense
Any gifts to non-employees that were not necessarily incurred in carrying on your business to produce assessable income are not tax-deductible. There is no FBT but there is no tax deduction or GST credit either.
Gifts of a capital nature – think of a house or car – are not eligible for a tax deduction per s8-1 (2) (a) ITAA97. When you make a gift for personal reasons – think of gifts to family and friends – the expense is not deductible per s8-1 (2) (b) ITAA97. Any gifts to produce exempt income or NANE are not deductible per s8-1 (2) (c) ITAA97. And any gifts specifically barred from a tax deduction by another provision are not tax deductible either per s8-1 (2) d). The most relevant example are gifts to foreign and domestic public officials, that are banned from a tax deduction per s26-52 and s26-53 ITAA97.
# 2 Events
Now you look at food and drinks consumed during an event. And with event we mean any get-together where you consume food and / or drink. So an event might be just two of you having a cup of coffee at a cafe. Or it might be a large office Christmas party at a function.
In theory, all food and drink is entertainment and hence never a business expense per Div 32 ITAA97. You have to thank the lavish all-afternoon lunches of the 90’s for that.
4W Rule
But there is a backdoor thanks to TR 1997/17. It is the 4W-Rule. If the WHY, the WHAT, the WHERE and the WHEN support a business purpose, it is a business expense and not entertainment.
The WHY and the WHAT are mandatory. If the WHY and the WHAT don’t support a business purpose, the expense is entertainment. In addition you need at least one more – either the WHERE or the WHEN or ideally both.
The more social the setting, the weaker the WHY. The more elaborate the meal, the weaker the WHAT. The later in the day, the weaker the WHEN. And the further away from the office, the weaker the WHERE.
So for each event you assess the WHY, the WHAT, the WHERE and the WHEN and if the combination of all four factors support a business purpose, the food and drink bill is a business expense and not entertainment.
Travel and accommodation linked to the event – think of the taxi ride to the restaurant – just follow food and drink. They are treated the same way.
Alcohol
Any alcohol kills the WHAT. The moment alcohol is served, you are looking at entertainment. With alcohol on the table the ATO no longer sees any justified work purpose – no matter how much business you might discuss – and calls it entertainment. Have a look at 14.9 in this ATO guide for employers. The only exception where the ATO is lenient about alcohol is when you travel overnight, but we will cover that later.
Business Expense
If the WHY, WHAT, WHERE and WHEN support a business purpose, the full bill is a tax-deductible business expense.
Sustenance served on business premises – think of morning and afternoon tea, finger food and light meals – qualifies as a business expense as well, no matter whether it is employees, clients or others consuming the food and drink.
Fringe Benefit
Most meals you pay include at least one employee. Clients tend not to go out on their own when you pay. So most events carry a potential fringe benefit.
If the meal doesn’t pass the 4W rule and doesn’t count as sustenance, the portion of the bill relating to employees is a fringe benefit. Staff lunches and Christmas parties fall into this category.
Non-Deductible Expense
If the meal isn’t sustenance served on business premises and doesn’t pass the 4W rule – for example because alcohol was served – the portion for non-employees is a non-deductible expense, but what portion exactly is not deductible depends on the method you use.
# 3 Travel
Now you look at all the meals you or your employees or others have while travelling overnight for your business. The rules are a lot more relaxed the moment you travel overnight, especially around alcohol.
Business Expense
The rule is very simple. If you travel for business, all is deductible – be it employees or clients travelling on your expense account – be it a frugal sandwich or a lavish meal with or without alcohol. The 4W rule doesn’t apply here. And the strict NO to alcohol doesn’t apply either. You need to keep a travel diary, but that is it.
Fringe Benefit
Any private travel paid for employees and their associates is an expense fringe benefit and subject to FBT.
Non-Deductible Expense
Any private travel paid for non-employees is a non-deductible expense.
Apportion
If you or your employees combine business and leisure in one trip, you apportion the costs. You look at the costs which would have been incurred anyway if there hadn’t been a few extra days added onto the trip for leisure. Those are deductible as a business expense. Anything else is either a fringe benefit or a non-deductible expense, depending who you pay for.
# 4 Travel Allowance
When your employees travel overnight for business, you might pay them a travel allowance to cover meals – among other things like accommodation.
Business Expense
An allowance is a deductible business expense. And the reason is that the allowance is treated like a wage. It is assessable income in the hands of the employee.
So you get a tax deduction as if you paid a wage, you withhold tax from the payment as if it was a wage and you include it on the employee’s payment summary as if it was a wage.
Your employee includes the allowance in their assessable income as if it had been a wage and they then claim their actual business travel expenses against this income.
(*) Even though the allowance is treated like a wage, it is disclosed on the payment summary and the employee’s tax return separately as an allowance, not a wage – just a different field on the form.
Exception
But all this is a huge hassle, for you but especially for your employee. And so to make things easier, there is an exception to this rule. If the allowance is:
# 1 Only for business travel and not private travel
# 2 Not exceeding the costs you expect the employee to incur
# 3 Not exceeding the reasonable travel allowance the ATO sets every year.
# 4 Not for overseas accommodation
# 5 Separately tracked in your accounting records,
then you don’t have to withhold PAYG W and you don’t have to include the allowance in your employees’ payment summary, and the employee doesn’t include the allowance in their assessable income but then also doesn’t claim any costs incurred against it either.
# 5 Living-Away-From-Home
You might pay an employee a living-away-from-home allowance (LAFA) to live away from home for business and this LAFA will probably include a component for food and drinks.
Fringe Benefit
A LAFA is always a fringe benefit, but there are significant exemptions, so you only pay FBT on a small portion of the actual costs, but get a tax deduction for the full amount paid.
So this is a short overview of the tax treatment of food and drink. Please call us if you have a question.
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