Emily Coltman ACA, Chief Accountant to FreeAgent – who provides an online accounting system for freelancers and small businesses – outlines a few important things to bear in mind when it comes to tax and VAT on entertaining costs. In this article the guidance on when VAT can be reclaimed relates only to businesses that are registered for VAT. If your business is not registered for VAT it cannot reclaim any VAT at all, apart from in certain circumstances when it subsequently registers.
1. Who are your employees?
HMRC only allow tax relief and the claiming of VAT on the cost of entertaining your business’s employees. And they’re very strict about who counts as “an employee”. Former and previous employees don’t qualify, nor do subcontractors, nor do shareholders who don’t work in the business. From experience, “an employee” has to be someone who is on your business’s payroll and being paid a salary.
If you’re entertaining anyone else, that counts as “business entertaining” rather than staff entertaining, and you can’t claim either tax relief or VAT on the cost of entertaining them.
For what happens when a business has salaried directors, but no employees, please see section 5 below.
If you’re a sole trader, or a partner in a partnership or LLP, remember that you don’t count as an employee because legally there’s no difference between you and the business, and therefore, you can’t claim tax relief or VAT on the cost of entertaining yourself.
2. What is entertaining?
HMRC say that “entertaining” is providing free or subsidised hospitality. Here are examples they give of what can count as “entertaining” – this list is not exhaustive:
• food and drink
• accommodation – eg hotels
• theatre and concert tickets
• sporting events and facilities
• entry to clubs and nightclubs
• use of capital assets such as yachts and aircraft
• payments made to third party business entertainment organisers
• free samples
• business gifts
• when you provide entertainment or hospitality only for the directors or partners of your business
We’ll look at the last point in more detail in section 5 below.
3. Entertaining employees: Benefit
When you’re entertaining your employees, this may be allowable for tax relief in your business’s accounts, but it could also be a benefit on which your employees have to pay some tax.
If you’re hosting an annual event, such as a summer boat trip or Christmas party, that’s open to all staff and costs less than £150 per guest present, then this is what HMRC call a “qualifying event” and will not be a taxable benefit for your staff.
But if any of these three conditions aren’t met, then the whole cost of the event becomes a taxable benefit – for example if it’s a one-off meal to celebrate a new contract, or if some employees are excluded, or if the cost per head is over £150.
4. Entertaining employees: VAT
The cost of entertaining employees as a reward for good work, or to keep up morale, is staff entertaining, which is allowable for tax relief and on which you can reclaim any VAT you pay.
But if your employees are acting as hosts to a group of customers at an event, then that then counts as business entertaining and there’s no tax relief or VAT deduction available on any of the cost of the event.
For tax relief and VAT reclaim to be allowed, the purpose of the event has to be to entertain employees.
If there’s an event with a mixed group and the purpose of the event is to entertain everyone equally, then you can claim back the VAT on the cost of entertaining your employees only. For example, if you have a staff Christmas party and allow your employees to bring a friend, you’d have to work out the amount of VAT you paid on the cost of entertaining your employees and only claim that. You can’t claim the VAT on the cost of entertaining their friends.
5. When your business has no employees other than directors
If your business has one or more directors, but no other employees, then the issue becomes more difficult.
HMRC say that the cost of providing entertainment only to directors or partners doesn’t qualify for tax relief or a VAT deduction.
But they also say that if the directors or partners are travelling “away from their normal place of work on a business trip”, then any VAT suffered on the cost of travel, accommodation and meals can be reclaimed. The rules for tax relief would mirror this, and this also applies to employees, sole traders, partners, and to subcontractors who are part of the team and treated like employees.
So if you want to have a celebration meal for two directors who are the only employees of the business, make sure that the meal takes place away from the usual place of work and as part of a business trip which the directors would have made anyway, for example to see a client!
This is a grey area so if you are not sure whether you can claim tax relief or reclaim VAT on a particular cost, you should seek professional advice from an accountant who will be able to advise you.