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Your Guide to Tax Deductions for Small Businesses

A person putting money into a piggy bank

If you run a small business, you’re going to want to file your tax deductions accurately. Properly filing tax deductions will give you a larger tax return. Unfortunately some businesses are not keeping accurate track of their records. As a result, there are a lot of tax write offs that people miss. To ensure that you benefit from deductions, you must keep records of all aspects of your business, including expenses. Once you’re organized and have valuable data to back up your claims, you may deduct many business expenses.

How do I know what’s deductible?

According to the IRS, a deductible business expense is something that is ordinary and necessary. An ordinary expense is something that is common and accepted in your trade or business, while a necessary expense is one that is helpful or appropriate for your line of work. For example, you can deduct any costs related to an event in which you sponsored or fees you paid to your accountant.

The IRS also says that you must not inadvertently merge your business expenses with other kinds of expenses. These following expenses must be separate from business expenses:

  • Cost of goods expenses
  • Capital expenses
  • Personal expenses

Costs of goods sold expenses

Accounting Coach defines the cost of goods sold as the cost of the products that a manufacturer, distributor, or retailer has sold. Your cost of goods are reported on your income statement, which is then seen as an expense for that accounting period. To calculate your cost of goods sold, you must keep track of your inventory. You will collect your inventory at the beginning and end of the year to ensure that your numbers are correct. Here are some expenses that the IRS considers as the cost of goods sold:

  • Cost of products or raw materials (including freight)
  • Storage
  • Factory overhead 
  • Direct labor costs

Capital expenses

Capital expenses are a part of your investment in the business, but they’re considered capitalized and not deductible costs. According to the IRS, there are three different types of costs that a person can capitalize:

  • Business startup costs
  • Business assets 
  • Improvements

A capital expense is incurred when a business uses collateral to buy a new asset to add value to the company. Capital expenses are actually recorded on a balance sheet rather than an expense on the income statement. A capital expense might be the cost of buying new building equipment or upgrading facilities in your building. 

Personal vs. business expense deductions

You typically cannot deduct any personal, living, or family expenses. However, if you have an expense that is partly used for business and personal expenses, you can divide the cost and deduct the specific costs towards your business. 

For example, you might borrow money and use 80% of the cost on your business and 20% on personal matters. You’ll be able to deduct the 80% you used as a business expense. In this specific case, this would be considered a business interest expense, and IRS Publication 535 clearly explains how one would treat this type of tax.

Home and Business

If you use your home to do business, you may be able to deduct expenses. The IRS states that you must prove that you use your home as your main place of business. Even if you tend to work outside of your home from time to time, you still can qualify for a home office deduction if you regularly complete business in your home. As an example, you may qualify for a deduction if you have in-person meetings with patients, clients, or customers in your home. For more information, you may look at publication 587 for more detailed information about the business use of your home.

Using your car for business

If you use your car in your business, you may deduct car expenses. But, of course, you must deduct any personal car expenses incurred. It is incredibly important at this time that you keep track of all mileage and expenses incurred for your records. You may use publication 463 to learn more about your expenses, and you must also consider the standard mileage rate when submitting these expenses. 

Other Business Expenses

There’s an abundance of other business expenses that you can find on publication 535, but here are a few expenses one can deduct:

Employees’ Pay – You can generally deduct the pay you give your employees for the services they perform for your business.

Retirement Plans – Retirement plans are savings plans that offer you tax advantages to set aside money for your own, and your employees’ retirement.

Rent Expense – Rent is any amount you pay for the use of property you do not own. In general, you can deduct rent as an expense only if the rent is for property you use in your trade or business. If you have or will receive equity in or title to the property, the rent is not deductible.

Interest – Business interest expense is an amount charged for the use of money you borrowed for business activities.

Taxes – You can deduct various federal, state, local, and foreign taxes directly attributable to your trade or business as business expenses.

Insurance – Generally, you can deduct the ordinary and necessary cost of insurance as a business expense, if it is for your trade, business, or profession.

IRS Deducting Business Expenses

What you need to do to claim tax deductions

You must keep accurate records of all expenses incurred in your business in order to claim tax deductions. Along with that, you’ll want to keep every receipt because you will use them later during tax season. The IRS knows that electronic expense tracking is popular, so they now accept electronic receipts– so go ahead and track your expenses electronically. After you’ve found a solution to track expenses properly, you’ll have a more organized and less stressful tax season. If your curious about the ways that you can properly store your electronic receipts, read this handy article.

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3 Comments

  1. Time Attendance
    Time Attendance January 14, 2020

    he IRS states that you must prove that you use your home as your main place of business. This is very helpful for business and office.

  2. Erick Lacy
    Erick Lacy January 17, 2020

    Really nice information who is going to help small businesses like me to calculate their taxes.

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