Small Business Expenses and Tax Deductions

Guidance for the Self-Employed and Sole Proprietors

If you are starting a new business knowing how to categorize an expense is important. There are two basic tax concepts new business owners need to add to their vocabulary: business expenses and capital expenses.

Business expenses

Business expenses are the cost of conducting a trade or business. These expenses are common costs of doing business, and are usually tax deductible if your business is for-profit. For example, costs of renting a storefront, business travel and paying employees are all deductible business expenses.

Capital expenses

Capital expenses are the costs of purchasing specific assets, such as property or equipment that usually have a life of one year or more and increase the quality and quantity of products and services you can provide. For example, if you own a landscaping business and you purchase mowers and excavating equipment, these costs are capital expenses and do not qualify as deductible business expenses. However, you can recover the money you spent on capital expenses through depreciation, amortization, or depletion. These recovery methods allow you to deduct part of your cost each year so that you are able to recover your capital expenses over time.

The following information provides a brief overview of expenses that qualify as tax deductions, with links to resources that provide clear guidance on deducting and capitalizing your expenses.

Deducting Business Expenses

To be deductible, a business expense must be both "ordinary" and "necessary." An ordinary expense is one that is common and accepted in your field of business. A necessary expense is one that is helpful and appropriate for your business.

Personal Versus Business Expenses

Generally, you cannot deduct personal, living or family expenses. However, if you have an expense for something that is used partly for business and partly for personal purposes, divide the total cost between the business and personal portions. You can deduct the business portion.

Home Office Deduction

Are you a home based business? If you are using part of your home for business, you may be able to deduct some expenses for the business use of your home. These expenses may include mortgage interest, insurance, utilities, repairs, and depreciation There are two basic requirements for your home to qualify as a deduction:

1.    Regular and Exclusive Use. 

2.    Principal Place of Your Business..

Visit the IRS page on Home Office Deductions for a full explanation of tax deductions for your home office.

Travel, Meals, Entertainment and Gifts

As you know, most companies expense items such as travel costs associated with business, in addition to meals, entertainment and gifts. However, there are rules to follow for these deductions.

Generally, you can deduct all of your travel expenses if your trip was entirely business-related. These expenses include the travel costs of getting to and from your business destination and any business-related expenses at your business destination, including tips, cab fare, and other "life on the road" expenses such as dry cleaning. Meals are the only exception. You can deduct only 50 percent of your meals while traveling.

For a full explanation of tax deductions for business travel, entertainment and gifts refer toTravel, Entertainment, Gifts and Car Expenses (IRS Publication 463).

Business Use of Your Car

If you use your car in your business, you can deduct car expenses. If you use your car for both business and personal purposes, you must divide your expenses based on actual mileage. Refer to the following resources for more information about using your vehicle for business:

·                  The Car Expenses Section in IRS Publication 463, Travel, Entertainment, Gift, and Car Expenses.

·                  For a list of current and prior year mileage rates see the Standard Mileage Rates.

Other Types of Deductible Business Expenses

There are numerous other costs of doing business that qualify as deductions. These include, but are not limited, to the following:

·                  Employees' Pay 

·                  Interest 

·                  Retirement Plans.

·                  Rent Expense 

·                  Taxes – Payroll, State and Local

·                  Insurance 

·                  Advertising

·                  Supplies

·                  Professional fees

·                  Business-Related Education 

For a clear and complete explanation of business expense deductions, refer to Business Expenses (IRS Publication 535).

Deducting Capital Expenses

There are two ways to deduct capital expenses. You can "depreciate" them by deducting a portion of the total cost each year over the useful life of an asset, or you might be able to deduct the cost in one year as a Section 179 deduction. Over the past few year accelerated depreciation has been used to stimulate the economy. These tools are similar to a 179 deduction but are specific to the facts.

Depreciation

You must spread the cost over more than one tax year and deduct part of it each year. This method of deducting the cost of business property is called depreciation.


You should always consult with your tax advisor prior to using any of the strategies mentioned in this article. If you are in need of help just call Bannon and Associates PC at 1-877-792-3812  for a free consultation.