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A FISH STORY WITH AN UNHAPPY ENDING

October 11, 2002

Townsend Industries, Inc., an important Central Iowa manufacturer, has learned that no good deed goes unpunished by the tax law. The company treats its sales staff and employees to an annual fishing trip in Canada. Killjoys always, the IRS assessed payroll taxes to the company on the grounds the fishing trips for 1996 should have been included in employee wages and assessed payroll taxes to the company.

The company argued the trips were excludible from wages as “working condition fringe benefits” under Code Sec. 132. The trial judge said that the company had to demonstrate that the expenses were “ordinary and necessary” to qualify for the Sec. 132 exclusion; to meet this standard, the company had to substantiate the expenses under the strict standards that apply to travel and entertainment expenses. As the trial judge explained,

“In order to show the fishing trip expenses were directly related to the active conduct of its business, Townsend needed to show at trial all of the following: (i) it had ‘more than a general expectation of deriving some income or other specific trade or business benefit’ from the fishing trips; (ii) that active business discussions were conducted on the fishing trips; (iii) that the ‘principal character or aspect’ of the fishing trips was the active conduct of business, although it is not necessary that more time was devoted to business than to entertainment; and (iv) the expenditure was allocable to Townsend's employees conduct of business and the other people on the fishing trip with which business was conducted.”

TOO MUCH FUN? The trial judge found that the company fell short of meeting these tests:

“The trip was not an integral part of Townsend employees' ability to perform their jobs, it was not a part or a continuation of a sales meeting, but rather was a relaxed and fun event where business was discussed as part of the background to the primary fishing endeavor. Additionally, the testimony of Mr. Townsend and Jorgensen made particularly clear at trial that Townsend basically held an expectation to derive uncertain future benefits, particularly in the way of improved comradery (sic) and relations among its employees and sales personnel, from the fishing trip …such an expectation is not enough to allow the trips to qualify as directly related under section 274(a).” (Citations omitted).

This case shows how difficult it can be to have tax-favored fun. Without a well-documented and somewhat regimented meeting schedule, the courts frown on out-of-town employee outings.

COLD COMFORT: While ruling adversely to the company, the judge provided an unusual testimonial at the end of his opinion:

“As this Court commented at trial, it has a deep respect for the plaintiff company, its founder Mr. Townsend, and their business philosophy. The company's success for over forty years dramatically reflects the legitimacy of the "me too" business philosophy espoused by Mr. Townsend and his wife since the company's inception. However, despite this Court's personal beliefs about the merits of Townsend's methods, including the value of the fishing trip to the business, Townsend simply is not exempt from the reach of the tax code and its regulations because it is an exemplary employer who genuinely cares about its employees and community.”

He might have added: “It’s the tax law. It doesn’t have to make sense.”

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