Tax Planning

Tax Deductions for Entertainment Facility – Vacation Home

Aug 1, 2021

Bradford Tax Institute

Here is a bit of good news: your vacation home can produce business deductions.

But you need to avoid having your vacation home classified as an entertainment facility in order to qualify for business deductions.

 

Entertainment Destroys Deductions

The U.S. court system is based on precedent. If a court such as the full Tax Court generates precedent and says something is true, then the next case in that court with similar facts generally follows the first ruling. In the court system, this has the formal name of stare decisis.

Because you are a business taxpayer, precedent is sometimes favorable, sometimes not. Apply “not” to entertainment facility deductions.

Courts have been merciless in destroying facility deductions when there are any incidents of entertainment, even though the law appears to allow a split of the facility with deductions for the non-entertainment use.

In Ireland, the court said any use of the beach home for entertainment, no matter how minor, fatally doomed the claimed entertainment facility deduction because Section 274(a)(1 )(b) operates as an absolute bar to a facility deduction when there is any entertainment.1

 

What Happened in Ireland

On his three-acre beachfront property, Thomas Brown Ireland

  • met with investment advisors;
  • met with current and prospective clients; and
  • met with salesmen, trainees, and other partners in his business.

In its ruling, the court noted that these activities are valid business activities, not entertainment. Here is how the entertainment crept into this case.

On occasion, Mr. Ireland’s business guests brought their families with them to the meetings, which often lasted three days. The court noted that because the family members did not attend the meetings, they must have been busy entertaining themselves, probably playing on the beach and maybe partying at night.

Because of the family members, the court ruled that the beach home was a nondeductible entertainment facility and that Section 274(a)(1)(B) operated to make any entertainment use of that beach home an absolute bar to a deduction for an entertainment facility.2

What does this mean for your vacation home? It’s pretty clear. Don’t use it for business entertainment.

 

Deductible Business Meetings

Had Mr. Ireland not invited family members, his use of the beach home would have qualified that beach home as a deductible business facility. The law specifically exempts from the entertainment facility disallowance rules business meetings with your employees, stockholders, agents, and directors.3

Further, the IRS in its regulations has done a good job of explaining how business meetings qualify for a business deduction and avoid those dreaded taints of entertainment.

For example, say you furnish refreshments to your employees at a bona fide meeting where your principal purpose is to instruct your employees in a new procedure for conducting your business. The IRS says that your principal purpose for the meeting controls the activity and that the refreshments do not create an entertainment activity.4

You get the same favorable result if you furnish refreshments at a bona fide meeting of your stockholders for the election of directors and discussion of corporate affairs.5

Caution. While the business meeting exception to the entertainment facility disallowance applies to bona fide business meetings even though some social activities are provided, it does not apply to meetings primarily for social or nonbusiness purposes rather than for the transaction of business.’ Further, the entertainment facility deduction is not available for meetings where your principal purpose is to reward your employees or agents.

Planning. If your only use of the vacation home is for business meetings, you deduct 100 percent of the vacation home. If you have both personal and business use, you find the percentages of use for both business and personal and then use those percentages to allocate the expense between your use of the vacation home for personal and business purposes.’

 

Lodging Exception

Do you use your vacation home for business lodging? If so, you escape the vacation home rules and may deduct your business lodging costs. The law is very clear on this. The vacation home section of tax law, section 280A(f)(4), states that nothing in the vacation home rules may disallow any business deduction for business travel.8

In other words, making your vacation home a business hotel and using it as a hotel for business travel does not trigger the vacation home rules.

Not for Landlords. The law does not grant the business lodging exception to landlords who rent dwelling units. If you have apartment buildings or other residential rentals, your overnight stays at your condo to look after your rentals do not let you escape the unfavorable vacation home rules.9

 

The Good News

So here is what you have so far, assuming you do not rent the vacation home for even one day:

  • Business use of the vacation home does not trigger the vacation home disallowance rules.”
  • Personal use of the vacation home does not trigger the vacation home disallowance rules or destroy the business deductions, although personal use does lower your business use percentage and resulting deductions.’
  • When you have both business and personal use of the vacation home, you must divide the vacation home into its business and personal components.12
  • Meeting use of the vacation home is not a prohibited entertainment use when the primary purpose of the meeting is directly related to your business.13
  • Overnight business lodging use of the vacation home produces deductible business use of the vacation home that adds to the business use percentage.14

Example. You use your vacation home 11 days for business meetings with your employees, 14 days for business lodging, and 8 days for personal purposes. This gives you 76 percent business use and 24 percent personal use (25 days business divided by 33 days equals 76 percent). You deduct 76 percent of the operating costs and depreciation of your vacation home.

 

1 Thomas Brown Ireland v Commr., 89 T.C. No. 68.
2 IRC Section 274(a)(1)(B).
3 IRC Section 274(e)(5).
4 Reg. Section 1.274-2(f)(2)(vi).
5 Ibid.
6 Ibid.
7 IRC Section 274(g); Reg. Section 1.168(i)-7(b).
8 IRC Section 280A(f)(4).
9 Ibid.
10 IRC Section 280A(e).
11 IRC Sections 274(g); 280A(e); Reg. Section 1.168(i)-7(b).
12 Reg. Section 1.168(i)-7(b).
13 Reg. Section 1.274-2(f)(2)(vi).
14 IRC Section 280A(f)(4).

Related Newsletter: 14 Tax Reduction Strategies for the Self-Employed

 

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