12/ 04/ 2006
by Kay Bell
'Tis the season for goodwill, but in a business setting, you better know the tax rules, too
As a business owner, you do a lot of entertaining throughout the year. But when the holidays roll around, this aspect of doing business has much more significance.
Not only is celebrating the season with your employees and clients a nice way to share the holiday spirit, the goodwill also can boost worker morale and reinforce business relationships.
There is, however, a potential Scrooge lurking in the background: the Internal Revenue Service. While business gifts could, in many cases, provide a company some tax savings, the gift and its circumstances must meet IRS muster.
Business gifts to clients and customers
Generally, business gifts can be deducted against taxable income. But the IRS sets a limit, $25 to be exact. There is no limit on the number of gifts you can give, only the value.
If, for example, you gave a client a $20 gift basket in July to mark the one year anniversary of doing business together, then another $20 gift for the holidays, you can only deduct $25 instead of the total $40.
You can, however, give 100 clients each a $25 gift and deduct the full $2,500 against your business income.
There also are a few gift-giving exceptions.
The $25 limit for business gifts doesn't include incidental costs. This includes costs such as packaging, insurance and mailing, even the fee to engrave jewelry. The IRS says a cost is incidental as long as it doesn't add substantial value to the gift.
Some smaller gifts also are not covered by the $25 limit. They include items that cost $4 or less and 1) have your company's name clearly and permanently imprinted on the gift, and 2) are one of a number of identical items that you distribute widely. Examples of these types of gifts are pens, magnets and other such items that are primarily promotional in nature.
Employee gifts
When it comes to employees, the IRS looks closely at any and every form of compensation.
"In the general business perspective, very little is a gift," says Steven I. Hurok, CPA and a tax director at BDO Seidman, LLP in Woodbridge,N.J. "Generally speaking, employees are providing services, and any gift is for that service."
Some companies reward workers with year-end or holiday bonuses. While employees might view this as a gift, the extra income is just that: taxable compensation. The employer must withhold payroll taxes, and the company is entitled to a deduction for the employee pay.
But even the IRS has a heart during the holidays.
If, to promote employee goodwill, you distribute turkeys, hams or other merchandise of nominal value to your workforce at the holidays, you can deduct the cost of these items as a non-wage business expense. And your workers do not have to report the value of the gift as income.
The key is that the gift meets the IRS' de minimus standard. This means that its value is so low, taking into account how frequently you provide similar benefits to other workers, that accounting for the gift would be unreasonable or administratively impractical.
Cash, however, regardless of how little, is never considered a de minimus benefit.
Office party protocol
You also can treat your workers to a holiday buffet and receive a tax gift for your company.
The IRS says that meals you furnish your employees as part of a "recreational or social activity," such as a company picnic or holiday party, are fully deductible.
And unlike usual business situations that involve food and beverages, neither you nor your workers are required to talk about business before, during or after the event.
