Planning to start a business in Rancho Cucamonga? Try these tips for a lower tax bill

Here at Whyte & Associates, Inc. in Rancho Cucamonga, we hear from many new entrepreneurs asking for tips to lower their tax bills. One of the most common questions is whether startup costs are tax deductible. In most cases they are, but you will need an effective tax strategy and some advance planning to make the most of your available deductions.

When startup costs occur

The list of expenses involved in opening a business is nearly endless. You may consider them all startup costs, but IRS has a narrower definition. For tax purposes, startup costs are incurred after the business plan is confirmed, but before the first sale occurs.

As an example, imagine you are considering opening a business, maybe a store or a restaurant. You consult a business coach for advice. Eventually, you decide that you are ready to be an entrepreneur, and that a restaurant is right for you. Next, you hire a consultant to help create a business plan. After a lackluster grand opening, you hire a PR firm to help you get more customers. These three expenses may seem similar, but only the consultant fee is a startup cost for tax purposes. You weren’t starting a business when you hired the coach, it was just an idea. You also weren’t starting a business when you hired the PR firm, you were already in business. Carefully record and document business startup expenses, because many of them are tax deductible.

What does – and doesn’t – qualify as a startup cost

Before deciding to write off startup costs, you will need to verify that your specific expenses qualify, because there are some limitations. In many cases, non-applicable expenses can be written off under other classifications.

The most notable exceptions to the startup cost deduction include:

• Long-term assets – There are assets that last at least 12 months (as opposed to supplies that get used up). For example, purchase of equipment, vehicles, and computers are long-term assets. You cannot write off these expenses as startup costs. However, they are typically deductible in the form of depreciation, or under Section 179, which has limits that change with each tax year.
• Purchasing a business – If you buy an existing business, the purchase price and costs associated with the sale are not considered startup expenses for tax purposes. They are capital expenses and will generally be recouped when the business is eventually sold or otherwise disposed of.
• Organizational expenses – This is a source of confusion for many new business owners. If your business is a simple sole proprietorship, any filing fees are startup expenses. However, if you are forming a new entity, such as a corporation, the associated fees are considered organizational expenses. This is a separate classification of deduction.
• Inventory – Purchasing stock may be one of the costliest parts of starting your business, especially if you are in the retail sector. However, it is not deductible as a startup expense. The cost of inventory is recouped when items are sold or written off as loss if they become unsalable.

How and when you can deduct startup costs

The initial startup deduction is capped at $5,000, or lower in some cases.
How much can you deduct in the first year? That depends on the total amount of your startup expenses, and how many months you have conducted business.

• Under $50,000 – You can claim a deduction up to $5,000 in qualified startup costs.
• Over $55,000 – You cannot deduct startup costs in the first year.
• Between $50,000 and $55,000 – The $5,000 deduction is reduced by the amount that your expenses exceed $50,000. For example, if your total startup costs are $51,500 then you can only deduct $3,500 ($5,000 minus $1,500).

The remainder can be amortized, usually deducted equally over the first 180 months in business. This can lower your taxes for the first 15 years, but it is voluntary. Business owners also have the option of capitalizing startup expense, though amortizing them is usually a better option. Whichever option you select should be indicated on your first tax return, and it cannot be changed.

If you feel overwhelmed or uncertain about developing a tax plan for your business, don’t worry – we are here to help! Just call Whyte & Associates, Inc. at (909) 575-0080.