What expense category is Client Gifts Expenses?

Giving gifts to clients is a common business practice aimed at fostering goodwill, showing appreciation, and strengthening professional relationships. While a thoughtful gesture, it's important for accountants and Small to Medium-sized Business (SMB) owners to understand how these expenditures are treated for accounting and tax purposes. The Internal Revenue Service (IRS) has specific rules regarding the deductibility of client gifts, which can impact your business's bottom line.

This guide will help you understand how to categorize client gift expenses, crucial considerations for their classification, common examples, the associated tax implications as per IRS guidelines, and how Fyle can simplify tracking and managing these expenses.

Client Gifts Expenses Category

Client gifts are items of value given to customers, clients, or business prospects without the expectation of immediate payment or a direct quid pro quo. The primary purpose is generally to maintain or improve business relationships.

In your accounting system, client gift expenses would typically be classified under:

• Promotional Expenses
• Marketing Expenses
• Client Relations Expenses
• Or a dedicated Client Gifts category.

These are considered operating expenses, but their deductibility for tax purposes is subject to specific limitations.

Some Important Considerations While Classifying Client Gifts Expenses

The $25 Per Person Per Year Limit

This is the most critical IRS rule for business gifts. You can deduct no more than $25 for business gifts you give directly or indirectly to any one person during your tax year[cite: 4734]. Any amount over $25 for a gift to an individual is not deductible.

Direct vs. Indirect Gifts

The $25 limit applies whether the gift is given directly to the individual or indirectly.

• A gift to a company that is intended for the eventual personal use or benefit of a particular person (or a limited class of people) is considered an indirect gift to that person or those individuals.
• Similarly, a gift given to a member of a customer's family is generally considered an indirect gift to the customer unless you have a bona fide, independent business connection with that family member and the gift isn't intended for the customer's eventual use.

Incidental Cost

Costs such as engraving on jewelry, packaging, gift wrapping, insuring, and mailing are generally not included in determining the cost of a gift for the $25 limit, provided these costs do not add substantial value to the gift itself.

Promotional Items vs. Gifts Subject to Limit

Certain items are not considered gifts for the purpose of the $25 limit:

• Items costing $4 or less that have your name clearly and permanently imprinted on them and are one of a number of identical items you widely distribute (e.g., pens, desk sets, plastic bags).
• Signs, display racks, or other promotional materials are to be used on the recipient's business premises.

Gift vs. Entertainment

An item that could be considered either a gift or entertainment will generally be treated as entertainment by the IRS. Since entertainment expenses are largely non-deductible, this distinction is important. However, if you give a customer packaged food or beverages that you intend for the customer to use at a later date, it is treated as a gift.

Recordkeeping 

Accurate records are essential to substantiate deductions for client gifts. You should keep records that show:

• The cost of the gift.
• The date the gift was given.
• A description of the gift.
• The name of the recipient (to ensure the $25 annual limit per person is tracked).
• The business purpose for the gift or the business benefit expected to be gained.
• The business relationship of the recipient to your company.

Examples of Client Gifts Expenses

Here are some common examples of items that might be considered client gifts, keeping the $25 deduction limit in mind:

• Gift baskets (e.g., fruit, gourmet foods, coffee/tea selections – intended for later consumption).
• Bottles of wine or spirits (subject to local laws and company policy).
• Desk accessories (if costing more than $4 or not widely distributed with your company name).
• Books relevant to the client's industry or interests.
• Tickets to an event (e.g., a concert or sporting event) if they are merely given to the client for their own use and you or your employee do not attend with them (otherwise, it's likely entertainment). The $25 limit per ticket would apply if it were considered a gift.
• Flowers or a plant for a client's office.
• Small electronic gadgets or high-quality branded merchandise (if over $4 and not for general distribution).

Remember, for each gift to an individual, only up to $25 of its cost is deductible per year.

Tax Implications of Client Gifts Expenses

$25 Deduction Limit

The most significant tax rule is that you can only deduct up to $25 of the cost of business gifts you give directly or indirectly to any one individual during your tax year. If you give a client a $50 gift, you can only deduct $25.

Spouses and Partnerships

• If you and your spouse both give gifts to the same business client, you and your spouse are treated as one taxpayer for the $25 limit, even if you have separate businesses or independent connections with the recipient.
• If a partnership gives gifts, the partnership and its partners are collectively treated as one taxpayer for applying this limit.

Non-Deductible Portion

Any amount spent on a gift to an individual that exceeds the $25 annual limit for that person is not deductible.

Exclusion of Incidental Costs

Incidental costs like packaging, insurance, and mailing are generally not included in the $25 cost limit of the gift itself and can be deducted separately as business expenses.

Items Not Subject to the $25 Gift Limit

As mentioned earlier, widely distributed promotional items costing $4 or less with your business name, and promotional materials for the recipient's business premises, are not subject to this $25 limit and are generally fully deductible as advertising or promotional expenses.

Timing of Deduction

The expense for a client gift is generally deductible in the tax year the gift is made (provided it's paid or incurred in that year, depending on your accounting method).

Substantiation

You must maintain adequate records to prove the business nature and cost of the gift, and to demonstrate that you have correctly applied the $25 per-person annual limit. This includes keeping track of gifts made to each individual throughout the year.

How Fyle Can Automate Expense Tracking for Client Gifts

Tracking client gifts, managing receipts, ensuring compliance with the $25 IRS limit, and documenting business purpose can be challenging. Fyle’s expense management platform can help automate and simplify this process:

Easy Expense Submission

Employees or business owners can quickly capture and submit expenses related to client gifts, including uploading receipts for the gift purchase and any associated incidental costs like shipping, directly through the Fyle mobile app, by forwarding emails, or via Slack.

Custom Fields for Compliance

Fyle allows administrators to set up custom fields on expense forms. For client gifts, you could add fields for "Recipient Name," "Recipient Company," and "Business Purpose" to ensure all necessary information for IRS compliance is captured at the point of expense creation.

Policy Enforcement and Notifications 

Fyle’s policy engine can be configured to:

• Flag gift expenses that exceed the company's internal policy limit per gift or the $25 IRS deductible limit, alerting submitters or approvers.
• Remind users to fill in mandatory fields like recipient name and business purpose.
• Detect potential duplicate expense submissions.

Centralized Recordkeeping

All submitted gift expenses, along with their receipts and justifications, are stored centrally within Fyle, creating an organized, accessible, and audit-ready record.

Approval Workflows

Set up multi-level approval workflows to ensure that client gift expenditures are reviewed and approved according to your company's policies and budget.

Spend Analytics and Reporting

Gain visibility into how much is being spent on client gifts, by whom, and for which clients. This helps in budgeting for client relations activities and ensuring adherence to spending guidelines.

Accounting Integration

Fyle seamlessly integrates with accounting software like QuickBooks Online & Desktop, NetSuite, Sage Intacct, and Xero. This ensures that categorized client gift expenses (reflecting the deductible portion) are accurately exported to your general ledger, saving time and reducing manual data entry.

By using Fyle, businesses can more easily manage client gift expenses, enforce spending policies, ensure better compliance with IRS regulations, and maintain the detailed records required for tax deductions.