There are many ways for small business owners to decrease their taxes. This was one of the exciting parts that I enjoyed when I crossed over to becoming self-employed. It is important to keep in mind that only business expenses can be deducted. I see too many aspirations of potential business owners thinking they can write off everything. Not the case. This seems obvious, but isn't always clear cut especially when you operate your business out of your home.
If this is the case for your business, you will need to calculate your home-office deduction. The Internal Revenue Service (IRS) states that a home office is a space devoted to your business and absolutely nothing else. This does not mean that this space has to be an entire room. Your home office can be part of a room. To determine what fraction of your expenses you can claim, simply measure your work area and divide that by the total square footage of your home. This is the part of your rent, utilities, and insurance that you can claim.
Be sure to check current tax laws. Capital and business expenses can be deducted in several different ways including:
- Claimed as a deduction all in one year
- Depreciated over the lifetime of the asset purchased
- Amortized over a fixed number of years
The following three categories will help you determine what can and cannot be deducted at the end of the year.
Items Purchased For Your Biz
Perhaps the easiest to figure out, this category includes office supplies, office furniture such as desks and filing cabinets, and other equipment like computers, copiers, etc. Software and subscriptions to business-related magazines also fall under this category. When we first opened our office, I was able to deduct my computer, printer, office furniture, telephone and several other items. I was happy to upgrade my PC at work this year, so I'll be writing that off this year, too.
Services Utilized for Small Business Owners
Vehicle Use: Keep track of mileage, tolls,and parking fees for all business-related activities. At the end of the year you can multiply your mileage total by a dollar amount provided by the IRS, and tolls and parking, and thus calculate your deduction. Or you can figure out the percentage of business-related driving and deduct that portion from your auto-related expenses including gas, repairs, and insurance.
The one thing you have to remember is to keep a log of your miles and your appointments. I keep a little notebook in my car to jot down dates, mileages, and where I'm going – client meeting, post office, etc.
Travel Expenses: Typically all such expenses can be deducted for business-related trips. However, you can only deduct 50% of meals. If part of your trip was personal, figure out the percentage and calculate accordingly (i.e. 2 days personal and 3 days business). This is a little trickier to keep track of if you mix business and pleasure, but it can be done.
Entertainment Expenses: You are allowed to deduct up to 50% of these expenses for unreimbursed business meetings. Such entertainment must occur in “a clear business setting.” If you are self-employed the 50% limit does not apply. Here's further clarification on the rule from IRS Pub 463;
- You have these expenses as an independent contractor.
- Your customer or client reimburses you or gives you an allowance for these expenses in connection with services you perform.
- You provide adequate records of these expenses to your customer or client.
In this case, your client or customer is subject to the 50% limit on the expenses.
More from GFC, Below
Rent & Utilities: If operating from a home office, use your above calculations to figure out what percentage of rent and utilities are for your office. Rent is completely deductible if used solely for your business.
Business-Related Education: Seminars, conferences, classes, and educational CDs can all be deducted. Each year I can write off my CFP dues, or anytime I need to get continuing education for my securities licenses.
Advertising and Promotions: Those directly related to your business are deductible. We don't do a lot of advertising, but the few ads we run in our local paper are all written off.
Legal & Professional Fees: You can deduct fees paid to accountants and attorneys. Having our wills drafted this past year and our annual meetings with our CPA are even more justified when you can write it off.
Money Paid Out From Your Small Business
Start-up Cost Deductions: You can often deduct up to a certain amount in start-up and organizational costs for your first year of business.
Interest: Be sure to deduct the interest you were charged for use of any money borrowed for business activities.
Insurance Premiums: Usually you are allowed to deduct the cost of insurance as a business expense if it is for your trade or profession. We have renters insurance on our office which is a straight deduction.
Taxes: Federal, state, local, and foreign taxes are deductible if they are directly attributable to your business as business expenses.
Retirement Plans: This includes tax-advantage plans for your own, or your employees' retirement. You know how much I love my SEP IRA and the tax benefits that I get from it 🙂
Social Security: As a small business owner, you have to pay double the social security contributions you would as an employee. Federal law mandates that the employer pay half and the employee pay half. Since you are both, you must pay double. Happily, come tax time you can deduct half of the contributions.
Charitable Deductions: Individuals can deduct a certain percentage of their adjusted gross income to qualifying charities and foundations.
In summary and simply said: Keep track, save all receipts, look up current tax laws, and use common sense when thinking about the home/office split. And if you're not comfortable doing it yourself, I highly suggest you seek the assistance of a CPA. My CPA has saved us so many headaches and enlightened us on tax saving opportunities that we would have not been aware of.