Getting started in the world of business is never easy. From the get-go, you’ll face numerous obstacles, starting with competition from established rivals. In the beginning, you’ll likely have to deal with an uncertain revenue stream.
But all is not bleak and hopeless; if it was, who would have the heart to start a business? In reality, there are about 30.2 million small businesses in the U.S, according to the U.S. Small Business Administration (SBA). To support the companies that launch every year, the U.S. government offers tax deductions for new small businesses. As a business owner, it’s up to you to understand and take advantage of these tax deductions.
Deductions Explained
The Internal Revenue Service (IRS) offers tax deductions to taxpayers who meet certain conditions. These cuts apply to a list of expenses that business owners can deduct from their taxable income. After writing off these items, your tax obligations will be significantly lower than if you didn’t.
Startup and Organizational Costs
As a small business owner, you should know that you qualify for deductions on some of the costs of setting up a shop. In your first year of operation, you can deduct as much as $5,000 in startup expenses if your total startup costs add up to $50,000 or less. Some startup costs that are considered capital expenses (meaning they’re used over time, not in just one year) and tax-deductible include:
- Your business insurance policies
- Real estate
- Physical office space
- Office supplies
- Professional fees and loan fees
- Business assets
Small businesses may also qualify for tax deductions on organizational costs if officially filed as a partnership or corporation within the first year of operations. Organizational expenses are related to registering your enterprise, including legal fees incurred when drafting agreements between yourself and other stakeholders.
Deduction Details
To understand your potential tax deductions, you may want to look into the startup and organizational costs in a little more detail. The costs you incur when getting your organization off the ground generally fall into three categories: the cost of creating the business, the cost of launching the business, and organizational costs.
The cost of creating your business includes what you spent on feasibility studies, scouting potential locations, conducting market analysis, etc. What you spend on creating awareness about yourself and your products and hiring your initial team falls under the cost of launching your business. Legal fees, consultation fees, and what your accountant charges you to structure your recordkeeping and reporting falls under organizational costs.
As previously mentioned, you can only qualify for the $5,000 startup cost and $5,000 organizational cost deductions if your startup costs are lower than $50,000. If your setup costs overshoot this amount, you lose out on the cuts by the amount by which you exceed this threshold. For instance, if your startup costs come to $54,000, you would be eligible for a reduction of $1,000 in the first year of your business.
Suppose your legal fees, insurance costs, and initial advertising expenditure come to more than $55,000. In that case, you will have overshot the limit under which you would qualify for a reduction in your maiden year.
The IRS will then amortize your deductions over the coming years. Amortization refers to breaking the amount into smaller equal amounts, deducted year by year over a given period. These calculations can be tricky, so you may want to work with a startup tax accountant to assess your options.
Due Diligence
Given how many enterprises struggle to break even in the first years of operation, you need to make the most of all the deductions you’re eligible for. If you’re not confident in your ability to do these calculations, you should leave it to the experts. Bringing in an accounting firm or accounting consultant may seem painful when you could use every penny, but it will prove worthwhile in the long run.
