Deducting business expenses on your taxes is one of the major perks of being a small business owner. But what if your business just started this year?
Good news: If you opened your doors in 2016, you can deduct some of the expenses on your tax returns.
In fact, even if your business won’t open until next year, keep track of the expenses incurred this year, and you can claim some of them on your tax return for 2017.
To qualify as a startup expense (a capital cost), the IRS requires the expense to meet two requirements:
- The expense was paid or incurred before the day your active trade or business began.
- The expense would be deductible for your business if you were already operating the business. (Note: the actual business you open has to be in the same field as the business you had in mind when you made the purchase.)
The IRS classifies costs related to starting a new business in two ways: as either “investigative” or “opening a business” expenses. For example, expenses for market research, surveys or fees to attorneys or other professionals would qualify as investigative expenses. If you’re planning to buy a business that’s already operating, any background checks or expenses related to due diligence, such as accountant fees, may also be considered investigative.
What about costs related to opening a business? According to the IRS, these include:
- Advertising and marketing for opening the business
- Salaries and wages for employees you are training as well as their instructors
- Travel and other essential costs required to find distributors, suppliers or customers
Buying business equipment is not considered a startup expense. Instead, equipment must be capitalized and depreciated. However, costs associated with setting up your office, such as software purchases and website design and development, are deductible.
If you’re traveling by car, even if it’s just running around town to interview experts and consultants, be sure to keep track of your mileage—this is also considered a startup expense. (The 2016 standard mileage rate for the cost of operating your car, van, pickup or panel truck for each mile of business use is 54 cents per mile).
Many startup entrepreneurs use a home office to get their business started. You may be able to take the home office deduction for the corresponding percentage of home costs, such as rent or mortgage, utilities and maintenance.
What legal form did you choose for your business? You can deduct costs associated with related paperwork and fees, such as those required for incorporating. However, you cannot deduct expenses associated with issuing stock or securities.
Startups based on new technology or scientific innovations may qualify for the research and development (R&D) expenditure tax credit. R&D expenditures generally include all costs related to the development or improvement of a product. For example, the expenses of obtaining a patent, such as attorney's fees, are deductible.
If total startup costs for the first year in business are under $50,000, business owners can deduct up to $5,000; any costs over $5,000 must be amortized over the next 15 years.
Remember that in order to claim your startup tax deductions, you must keep business and personal expenses separate. Maintain receipts and detailed records of your startup-related purchases and expenses. Use a tax organizer to record a description of each expense, the amount and the date each cost was incurred.