How to Write Off Small Business Expenses
Writing off small business expenses can help you lower your tax liability. Here's a look at what you can write off and how the process works.
As a small business owner, you typically need to spend money to make money. The upside? You can deduct qualifying business expenses on your taxes to lower your overall tax liability. But how do write-offs work? Here’s what you need to know.
How Do You Write Off Small Business Expenses?
Writing off small business expenses starts with tracking them throughout the year. You can streamline the tracking process by keeping your business and personal expenses separate. For example, most business owners open a dedicated business bank account or business credit card and use it exclusively for their business-related purchases.
As for receipts, the IRS can audit you and request to see proof of all of your business expenses, so you need to save them as you go. “One way to organize receipts is to keep a folder for each of your vendors with all the receipts for that year. Another option is to attach electronic copies of your receipts to the transactions in your accounting software,” says Tim Yoder, CPA.
When tax filing time rolls around, you’ll report the amounts you’ve spent in various expense categories on your tax return. Any qualifying expense that doesn’t fit into a listed category can be added under the “other” section. Then, you’ll subtract all of your expenses from your gross income, effectively reducing the amount that’s subject to taxes.
.What Small Business Expenses Can You Deduct?
For a business expense to be deductible, it must be ordinary, necessary and common in your industry. For example, the IRS lists the following expense categories on its Schedule C form:
- -Advertising costs.
- -Vehicle expenses.
- -Fees and commissions.
- -Contract labor.
- -Employee benefit programs.
- -Insurance (not health).
- -Interest charges.
- -Mortgage payments.
- -Legal and professional services.
- -Office expenses.
- -Pension and profit-sharing plans.
- -Rent or lease payments.
- -Repair and maintenance costs.
- -Taxes and licenses.
- -Travel and meal expenses.
What Small Business Expenses Can’t Be Deducted?
While the above expense types can commonly be written off, here’s a look at what can’t:
- - Capital expenses: Business startup costs, business assets and improvements are not deductible. Instead, you can recover them through depreciation, amortization or depletion.
- - Personal expenses: You can’t deduct personal, living or family expenses. However, if an expense is partially used for business purposes, you can deduct a portion of it.
- - Cost of goods sold: COGS refers to the costs involved with supplying products to customers (e.g., raw materials, storage, direct labor, factory overhead). These expenses are deducted from your gross receipts to calculate your gross profit for the year.
- - Client entertainment: Expensing client entertainment is also off the table. “The 2017 Tax Cuts and Jobs Act made client entertainment nondeductible, even if you attend with a client and business is discussed,” says Yoder.
“When in doubt, do your research or ask a CPA.” says Moira Corcoran, CPA. "Even though an expense may be ordinary and necessary, you might not be allowed to deduct it in the year you paid it, or at all. Taking deductions you shouldn't is a potential invitation to an audit.”
How to Deduct Small Business Expenses on Your Tax Forms
When filing taxes for your business, how you report business expenses will depend on the structure of your business.
Sole proprietors report their business income using Schedule C (Form 1040). The majority of business expenses are added under Part II on lines eight through 30. Expenses that don’t fall under any of the expense categories listed in Part II can be listed under Part V.
Partnerships are required to file Form 1065. Business expenses are requested under the “Deduction” section on lines nine to 21.
Both C and S Corporations are required to file Form 1120. Expenses are requested under the “Deductions” section on lines 12 to 29c.
Limited Liability Companies
The form required for an LLC will depend on which business structure it elects. LLCs can be treated as corporations, partnerships or disregarded entities.
How Much of a Business Expense Can You Deduct?
You can often deduct 100% of qualifying ordinary and necessary business expenses. However, according to Lei Han, CPA, “It’s important to be aware of the limits on certain types of deductions. For example, the costs of meals provided by restaurants for business purposes can be 100% deducted in 2021 and 2022 (due to the Consolidated Appropriations Act), but the normal limitation is 50%. Additionally, you can only deduct up to $25 in business gifts per person, per year.”
When Do You Deduct Small Business Expenses?
When using the cash accounting method, you’ll deduct expenses in the tax year that you paid for them. For example, you would report expenses that were paid in 2022 when filing your 2022 tax return.
On the other hand, if you use the accrual method of accounting, you'll deduct expenses when you become liable for them. For example, if you hired a web designer and they finished the job in December of 2022, but you didn’t pay them until January of 2023, you would deduct the expense for the 2022 tax year.