Prior to 2018, a business could generally deduct ordinary and necessary entertainment expenses (subject to the 50% disallowance rules) if the entertainment was directly related to the active conduct of a trade or business or associated with the active conduct of a trade or business and the entertainment directly precedes or follows a substantial business discussion. The Tax Cut and Jobs Act eliminates the deduction for entertainment expenses unless an exception applies. Entertainment expense includes dues and membership fees paid to clubs organized for business, pleasure, recreation, or other social purposes. Examples are country clubs, golf clubs, athletic clubs, airline clubs, hotel clubs, and business luncheon clubs. These types of organizations have a principal purpose of providing members and their guests’ entertainment activities.
An ordinary expense is an expense that is generally accepted in the course of your business. A necessary expense is one that is helpful and appropriate for your business. The expense must be directly related to conducting business. Golf club memberships are generally not directly related to conducting business. Additional requirements must be met to be able to substantiate this deduction. You must have more than a vague expectation of deriving some income or other specific business benefit (other than a favorable attitude of the person entertained) from the entertainment. However, you do not need to show that income or other business benefit actually resulted from the entertainment. The main purpose of the combined business and entertainment is the active conduct of business. This is key. The main purpose of paying golf club dues must relate to the active conduct of business.
However, deductions can be allowed to the extent the dues are treated as compensation to an employee. If dues are reported as compensation to an employee, the compensation should be included in all employment tax returns as well as in wages on the employee’s W-2. When a shareholder of a business uses the club, the compensatory nature of the club dues should be expressly approved in the board of directors’ minutes. When an S corporation has a sole shareholder, compensation treatment generally will create a wash for income tax purposes. The club dues will be added to the shareholder’s salary as compensation income and the S corporation’s pass-through income is reduced by the same amount. Although the additional compensation will result in additional employment taxes. When a corporation has multiple shareholders, all shareholders would benefit from the corporation’s additional compensation deduction on a per-share, per-day basis in accordance with their stock ownership.