How to Write Off Small Business Expenses: A Business Owner's Guide
Small business owners know that every dollar counts, especially when you're just starting out. From the initial market research to setting up your office, expenses pile up quickly. The good news is that some of these costs can be written off to cut your tax bill — but it’s important to know the rules to get the most from these deductions.
In this article, we’ll cover how to write off small business expenses, including how to claim the $5,000 first-year start-up deduction and what qualifies as a legitimate business expense.
Do: Understand what qualifies as a startup expense
First things first, let's clarify what the IRS considers a startup expense. This is what you spend before you actually open your doors for business. They might include:
Market research.
Advertising.
Travel costs related to finding suppliers or distributors.
Wages for employees in training.
Consultant fees.
It's important to keep detailed records of these expenses from day one. You'll need this information when it comes time to file your taxes.
Don't: Confuse startup expenses with organizational expenses
They sound similar, but startup expenses and organizational expenses are different as far as taxes are concerned. Organizational expenses are what you spend to actually form your business, such as:
State incorporation fees.
Legal fees for drafting your corporate charter.
Accounting fees for setting up your books.
You should keep these separate from your startup expenses in your records.
Do: Take advantage of the $5,000 first-year write-off
Here's some good news: the IRS allows you to deduct up to $5,000 of your startup costs in your first year of business. This is a fantastic way to reduce your tax burden right out of the gate. But there's a catch...
Don't: Forget timely filing requirements
To claim the $5,000 first-year deduction, you need to file your tax return by the due date (including extensions) for the tax year when you started your business. If you miss this deadline, you could lose out. Mark your calendar and don't let this slip!
Do: Understand the limits of the first-year deduction
While the $5,000 write-off is great, it's not a given for every small business. If your total startup costs exceed $50,000, the amount you can deduct in the first year starts to decrease. For every dollar over $50,000, your deduction goes down by a dollar. So if you had $52,000 in startup costs, your first-year deduction would be reduced to $3,000.
Don't: Forget about amortization
Any startup costs that you can't deduct in the first year aren't lost forever. You can amortize the remaining costs over a 15-year period. This means you'll still get the tax benefit, just over a longer time frame.
Do: Make the startup expense deduction on your tax return
It isn’t complicated to claim the startup expense deduction – you just write "Section 195 Election" at the top of your Form 4562 with the amount you're deducting. If you don’t make the election to deduct startup expenses on your first business tax return, you won’t be able to deduct them in future years. You only have one shot, so you have to include these deductions when you file for the first time.
Don't: Mix personal and business expenses
This is a big one. Make sure you're only claiming expenses that are genuinely for your business. Using your business account for personal expenses, or vice versa, can land you in hot water with the IRS.
Do: Consider other types of expenses
While we've focused on startup expenses, don't forget about other types of costs that might be fully deductible in your first year, such as equipment purchases (which might qualify for Section 179 expensing) or routine business expenses once you're up and running.
Don't: Assume all industries are treated the same
Some industries have special rules. For example, if you're purchasing an existing trade or business, different rules may apply to how you can deduct your costs.
Do: Keep flawless records
Good record-keeping is crucial. Save receipts, invoices, and anything else related to your startup expenses. This will make your life much easier come tax time and put you in a good place if you get audited.
Don't: Do it alone if you're unsure
This stuff isn’t easy. In fact, tax law is so complicated that it’s literally our full time job. If you're feeling overwhelmed or unsure about how to sort out and deduct your startup expenses, it might be time to consult with a tax pro. At Archer Lewis, we can help ensure you're making the most of your deductions while still following the rules.
Remember, every business is unique, and what works for one might not work for another. By understanding these basic do's and don'ts, you're already on the right track to making smart financial decisions for your new business.