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The importance of identifying entertaining costs accurately

28 November 14 | By: Jas Jhooty

Wimbledon

Most employers are involved in paying entertaining costs in one form or another. These costs are treated differently for tax purposes depending on who is present at the entertaining event.

What is entertaining?

HMRC say that entertaining is providing free or subsidised hospitality. Here are examples that they provide of what can count as entertaining: -

  • food and drink
  • theatre and concert tickets
  • sporting events and facilities
  • entry to clubs and nightclubs
  • payments made to third party business entertainment organisers
  • business gifts (see below)

Business entertaining

For entertaining to be allowable for Income Tax purposes there must be non-employees of the business in attendance and there must be a genuine business reason for the expense. These types of costs are identified as Business Entertaining and are added back to profits as these are disallowable costs for UK corporation tax (CT) and also the corresponding VAT element of such costs cannot be reclaimed.

Staff entertainment

An exception to the business entertaining rule concerns the entertainment of employees. Staff entertaining is allowable for CT (and the corresponding VAT element can be reclaimed) but these costs are taxable on the employee for Income Tax purposes.

However as most employers are aware, not all staff entertainment is taxable by virtue of the Christmas Party and Annual Functions exemption allowing up to £150 (including VAT) per annum spent on such events to be tax-free.

For all other types of staff entertainment income tax is chargeable on the employee on the costs of the benefit. As most employees would not be best pleased to learn that they have to pay tax on the cost of the drink that their boss bought them in the pub, most employers settle the tax due on staff entertainment costs by way of a PAYE Settlement Agreement (PSA).

Identifying attendees

It is very important to correctly identify the attendees of entertaining events. This is because only the staff proportion of any entertaining costs can be reclaimed for VAT purposes. As a rule employers must obtain full details of: -

  • the business purpose of the event
  • names of external attendees and the business they represent
  • names and positions of employees attending and the location at which they are normally based
  • names of any other attendees e.g. spouses, retirees etc.

Employers should have stringent policies to ensure that these details are being captured efficiently. It is not good practice to allow employees to merely scrawl barely legible names on the back of a restaurant bill.

Mixed use entertaining

Sometimes employers may entertain employees and non-employees, for example where the employer allows employees to bring guests to staff parties and outings without making a charge. When this happens the employer can only recover as input tax the VAT incurred on entertaining employees.

So if an event is held which is attended by roughly equal numbers of employees and guests only 50% of the input VAT can be recovered.

Bribery Act implications

The Bribery Act 2010 was introduced to update and enhance UK law on bribery. When this legislation was first introduced many companies were understandably concerned about the implications of this act on their normal entertaining practices. Fortunately the Ministry of Justice issued a guide that confirmed that normal business entertaining costs would not be covered by the Bribery Act as long these costs were reasonable and proportionate for the business.

Business gifts

Most gifts given to non-employees would fall into the category of Business Entertaining. There are exceptions from this general rule. If any of these exceptions apply, the expenses incurred in providing the gift are deductible from trading profits. The exceptions are where:

  • the gift is of an item which it is the trader’s trade to provide and it is given away in the ordinary course of the trade to advertise to the public
  • the gift incorporates a conspicuous advertisement for the trader, although there are exclusions relating to the type of gift and the total amount per person
    1. the gift is food, drink, tobacco or a token or voucher exchangeable for goods, or
    2. the cost of the gift, together with the cost of any other gifts (except food, drink, tobacco or a token or voucher exchangeable for goods) to the same recipient in the relevant tax period, exceeds £50.
  • the gift is provided to the employees of the trader so long as this is not incidental to gifts being provided to others. These would be taxable on the employee unless they can be classified as Trivial Benefits
  • the gift is given to charity or other specific bodies

Reporting entertainment costs

In the absence of a P11D dispensation employers must identify and report entertainment costs on employees’ P11D forms. Employers also have to identify the type of entertaining but putting a “tick” in the corresponding P11D box if the costs were associated with business entertaining and a “cross” in the corresponding P11D box if the costs were associated with staff entertaining. The “tick” and the “cross” quickly indicate to the taxman whether these costs would be disallowed for UK CT purposes. Staff entertainment must always be reported unless the employer has entered into a PSA with HMRC to settle the tax due on these costs.

How emTax can help?

It is very important that you identify entertaining costs correctly. As we have illustrated in this short summary, entertaining is quite a complicated area of tax legislation with differing tax consequences depending on the type of entertaining. You should ensure that your record keeping in this area is more than adequate to fend off any potential enquiries raised by the taxman.

Our consultants have all worked for HMRC and can undertake a dummy audit on your current systems to test their efficacy. We can also advise on how to improve your policies and systems to bring them up to scratch.

For more information on this or any other employment tax service do not hesitate to contact us.

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