If you recently established a new business, or you are contemplating starting one, you are now in a hectic, exciting time. Generally, one must spend a lot of money before opening their business. Expenses often go towards training workers, paying for rent, utilities, marketing and more.
What first-time business owners often don’t know is that many expenses cannot be deducted right away. The way you handle some of your initial expenses can make a big difference on your tax bill. This, along with keeping organized records of all financial activity, is crucial to tax planning and strategy.
What first-time business owners should know
Common questions that come up when starting a new enterprise include:
- What costs are considered “start-up costs”? These are incurred or paid expenses while creating an active business; including preliminary research expenditures.
- How much of start-up costs can you deduct on your taxes? Business owners or entrepreneurs can deduct up to $5,000 of business start-up, and $5,000 of organizational costs in the year the business begins. However, we all know that $5,000 doesn’t go far! The $5,000 deduction is also reduced dollar-for-dollar by the amount your total start-up or organizational costs exceed $50,000. Any remaining costs must be amortized over 180 months on a straight-line basis.
- When can I start using the start-up costs deduction? No deductions or amortization write-offs are allowed until the year when the business begins earning revenue. To determine if a taxpayer meets this “active conduct” test, the IRS and courts ask questions. They want to know if you undertook the activity intending to earn a profit, if you regularly and actively involved in creating your business, and if the activity has begun.
Types of expenses
Start-up expenses generally include all costs that are incurred to engage in a for-profit venture in anticipation of that becoming an active business, as well as investigating the creation or acquisition of a business and creating one.
To be eligible, an expense must be one that would be deductible if it were incurred after a business began. One example would be the money you spend analyzing potential markets for a new product or service you might be thinking about adding to your business.
To qualify as an “organization expense,” the amount of money spent must be related to the creation of a corporation or partnership. Organization expenses could be legal and accounting fees for services related to organizing the new business, and filing fees paid to the state of incorporation.
If you have start-up expenses that you’d like to deduct this year, time might not be on your side. You need to decide whether to take the elections described above, and make sure you are keeping clean and organized bookkeeping records of transactions.
Contact us about your business start-up plans. Our team can help with tax strategy and teach you how to set up your bookkeeping foundation strong. We’ll create a customized solution and business plan to help you reach your goals.