When first-time entrepreneurs begin the process of starting a business, they sometimes throw caution to the wind when it comes to investing in that business, because they assume they can write off all of their business expenses.
Those entrepreneurs are in for a serious shakeup because that’s not explicitly true. There are some rules about what and when you can deduct as it relates to startup costs. Take notes, folks. This is important.
You Can Only Deduct Once Your Business is Operating
Let’s say you started investing in your new business in November of 2014. You bought office supplies, furniture, and inventory. But you didn’t actually start your business until January 2015. You won’t be able to claim those business expenses on your taxes for your 2014 taxes; instead, you’ve got to wait until next year when you file your 2015 taxes.
According to the IRS:
“You elect to deduct the start-up or organizational costs by claiming the deduction on your income tax return (filed by the due date including extensions) for the tax year in which the active trade or business begins.”
So before you start gleefully counting your tax return based on those startup expenses, realize that you’ve got to wait a year before you see it.
You’re Limited in How Much You Can Deduct Up Front
Another bummer about startup expenses is the fact that you can only deduct $5,000 in startup and $5,000 in organizational costs now (or rather, for the tax year you started your business). The rest has to be amortized over 15 years.
Startup costs include those you spent to create the business or research how to create or buy an existing business. Those costs are those spent on an activity you took on in order to make a profit one day. Examples include:
- An analysis or survey of potential markets, products, labor supply, transportation facilities
- Advertisements for the opening of the business
- Salaries and wages for employees who are being trained and their instructors
- Travel and other necessary costs for securing prospective distributors, suppliers, or customers
- Salaries and fees for executives and consultants, or for similar professional services
Organizational costs are the direct expenses you have in creating your corporation, such as:
- Temporary directors
- Organizational meetings
- State incorporation fees
- Legal services
Budget This Up Front
Knowing that you won’t instantly get tens of thousands of dollars in deductions on your startup expenses might encourage you to curb your spending. At any rate, when you’re in the process of launching your business, be conservative in your budget so you don’t break the bank.