IRS Provides Guidance on the Full Deductibility of Restaurant Meals

One of the sensual and ineffable pleasures of life is a satisfying meal, whether prepared at home or partaken of at a restaurant. The Consolidated Appropriations Act, 2021 (CAA) temporarily expanded the pathway to this pleasure by providing for the full deductibility of business expenses paid or incurred from January 1, 2021 to December 31, 2022 for food or beverages provided by restaurants. Full deductibility is set forth in Section 274(n)(2)(D) of the Internal Revenue Code of 1986, as amended (the “Code”). Prior to the CAA, the deductibility of restaurant meals, like all other food and beverage business expenses, was subject to a 50 percent limitation.

Since the CAA did not define “restaurant,” the precise scope of full deductibility remained uncertain. In Notice 2021-25, the IRS defined “restaurant,” and its definition removes a significant degree of this uncertainty. A restaurant means a business that prepares and sells food or beverages to retail customers for immediate consumption, regardless of whether the food or beverages are consumed on the business’s premises. A restaurant does not include a business that primarily sells pre-packaged food or beverages not for immediate consumption, such as a beer, wine, or liquor store; convenience store; drug store; grocery store; kiosk; newsstand; specialty food store; or vending machine. The 50 percent deduction continues to apply to expenses for food or beverages purchased from these businesses.

For example, restaurant meals delivered to business meetings of established and prospective agents, employees, clients, customers, partners, professional advisers, and suppliers are fully deductible. The meals may be delivered to meetings held in-person at a business’s office, or to persons working from home who attend the meetings virtually.

The definition provided by the IRS does not remove all uncertainty, for there are aspects of the definition that may yet prove problematic. As a general principle of federal tax law, a taxpayer has the obligation to show its entitlement to a deduction. However, a business may not know or have access to the information to determine whether another business primarily sells pre-packaged food or beverages not for immediate consumption. Moreover, Notice 2021-25 does not provide guidance on what “primarily” means or what constitutes pre-packaged food. For example, does pre-packaged food include grab-and-go items? Another issue is, if a caterer establishes a pop-up store that sells food to the public two days a week, does the pop-up store qualify as a restaurant that provides full deductibility?

In addition, under Notice 2021-25, a facility is not treated as a restaurant in the following two situations. The first is any eating facility located on the employer’s business premises and used in furnishing meals excluded from an employee’s income under Code Section 119. The second is any employer-operated eating facility treated as a de minimis fringe under Code Section 132(e)(2), even if the facility is operated by a third party under contract with the employer under Treasury Regulation Section 1.132-7(a)(3). In both situations, under Code Section 274(o), no deduction is allowed to the employer.

To gain a historical perspective on the deductibility of food or beverages, one must look to the amendments made to Code Section 274 by the Tax Cuts and Jobs Act enacted in 2017 (TCJA) and the final regulations issued thereunder in October 2020. Before the TCJA, businesses could deduct 50 percent of meal expenses and certain entertainment expenses. The TCJA disallowed any deduction for entertainment, amusement, or recreation.

However, Treasury Regulation Section 1.274-11(b)(1)(ii) issued under the TCJA allows a 50 percent deduction for the expenses for food or beverages incurred at or during entertainment activities if the food or beverages are separately purchased from the entertainment activity, or the cost of the food or beverages is separately stated from the cost of the entertainment in a bill, invoice, or receipt. The amount charged on a bill, invoice, or receipt must reflect the venue’s usual selling cost for the items if they were to be purchased separately from the entertainment, or approximate the items’ reasonable value.

For example, under Treasury Regulation Section 1.274-11(d)(2), a business invites a customer to a baseball game to discuss a proposed business deal. The cost of the tickets to the game is a disallowed entertainment expense. If the business buys hot dogs and drinks from a concession stand, which are separately purchased from the tickets, the business can deduct 50 percent of the cost of the hot dogs and drinks.

Under Notice 2021-25, if the concessionaire grills the hot dogs, brews coffee, microwaves pre-cooked potato knishes, and sells pre-packaged black and white cookies, chocolate chip cookies, and cans of soda, the concession should qualify as a restaurant that provides full deductibility. The knishes, cookies, and soda should escape the exclusion from the definition of restaurant for pre-packaged food or beverages since they are almost always sold for immediate consumption.

If the sports venue provides catering to corporate suites, the charge for which is separately stated in an invoice from the cost of the suite, the catering is likely subject to the 50 percent deduction limitation. The catering likely does not qualify as food and beverages sold to retail customers since it is sold to a limited group of customers, and therefore does not qualify as a restaurant that provides full deductibility.

Under Treasury Regulation Section 1.274-12(b)(2), the expenses covered by the full or 50 percent deduction are the full cost of the food or beverages, as well as delivery fees, tips, and sales tax. It is unclear whether the full cost includes a caterer’s charges for the equipment, dishes, flatware, and linens that the caterer provides.

Finally, under Code Section 274(k)(1), no deduction is allowed for the expense of any food or beverages unless: (1) the expense is not lavish or extravagant under the circumstances; and (2) the taxpayer or an employee of the taxpayer is present at the furnishing of the food or beverages. The standard of the expense not being lavish or extravagant under the circumstances is one of amoeba-like amorphousness. For example, does this standard permit a Silicon Valley tech firm to order Dewar’s blended scotch at a recruitment dinner for an MIT undergraduate engineering student considering an entry-level position? Does Glenlivet fifteen-year-old French Oak Reserve single malt scotch cross the line? Does it make a difference if the tech firm is a cash-strapped start-up or a unicorn?

As another example, does this standard permit an elite law firm to order Glenlivet twenty-five-year-old single malt scotch at a recruitment dinner for an editor of the Harvard Law Review considering a first-year associate position or a position after completing a coveted judicial clerkship?

The lesson of the CAA and Notice 2021-25 is that, no matter how well-intentioned Congress and the IRS may be, tax law is invariably riddled with uncertainty.

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