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If you’re in business, you have expenses. But what is a business expense and how do you know if it’s deductible? Our Guide to Business Expenses shows you how.
A large part of small business accounting is accounting for expenses. These monthly operating expenses are tax deductible, helping to reduce your net profit, and the amount of money you’ll need to pay in taxes at the end of the year.
But what business expenses are tax deductible? We’ll give you a list of common tax deductions and what you should look out for.
Overview: What are business expenses?
Business expenses are the cost of doing business. Everything from the rent you pay each month for your office space to the paper you purchased for your printer is considered a valid business expense.
The IRS states that a business expense must be both ordinary and necessary, meaning that the expense is common for the type of business you own, while necessary means that it’s helpful and appropriate for your type of business.
Here are some examples of deductible expenses:
In addition, if you manufacture or purchase inventory for resale, the cost of goods sold is also fully tax deductible. However, you cannot deduct the same expense from the cost of goods sold and regular business expenses.
For example, if you’ve already deducted the wages of your factory employees when calculating the cost of goods sold, you cannot include those wages again as an expense.
Deductible vs. non-deductible business expenses: What’s the difference?
Deductible expenses are always directly related to the cost of doing business. For instance, you have a lunch meeting with a potential client that may bring in a lot of revenue.
To prepare for the meeting you buy a new suit and make reservations at an exclusive restaurant. Fifty percent of the cost of the meal is considered deductible, but your new suit is not, even though both were purchased for the purpose of landing a new client.
The following table provides a list of some common deductible expenses, some expenses that are partially deductible, and those that cannot be deducted.
|
Deductible Expense |
Explanation |
|---|---|
|
Vehicle |
You can deduct vehicle related expenses such as gas, tolls, parking, etc., or deduct miles driven using the IRS standard mileage deduction. |
|
Professional Services |
If you use a CPA or accounting firm to look over your books or prepare your tax return, you can deduct the cost of those services. Same goes for legal or professional service fees. |
|
Educational Expenses |
If you’ve attended work-related workshops, seminars, or classes, you can deduct the cost. |
|
Commissions |
If you pay your employees a commission, it’s deductible. |
|
Wages |
Employee wages are fully deductible. If you have direct labor employees, be sure that their wages are not deducted twice. |
|
Utilities |
In order to run your business, the office or plant needs electricity, heating, and cooling. You can also include items such as internet service fees in your utility cost. |
|
Supplies |
Any supply that’s required to run your business is tax deductible. For a restaurant, that can be dishes, pots, or glasses, while office expenses will include pens, paper, staplers, paperclips. |
|
Furniture and Equipment |
File cabinets, desks, chairs, tables, counters, factory machinery, work benches, and sofas that are used in your place of business are all tax deductible. You have the choice to depreciate these items or deduct them all in the year they were purchased. |
|
Startup Expenses |
If you’re just starting a business, you may be able to deduct some of your startup costs up to $5,000. |
|
Partially Deductible |
Explanation |
|
Meals |
While lunch or dinner with clients is common, you can only deduct 50% of the bill. |
|
Gifts |
There is a $25 limit on gifts for tax purposes. While you’re free to spend what you like on gifts for clients and associates, you can only deduct $25 per gift. |
|
Non-Deductible |
Explanation |
|
Work Clothing |
While the cost of a work uniform is deductible, the cost of work-appropriate or work specific clothing is not. So even if you only wear your suits to work, they do not qualify as a deduction. |
|
Commuting |
Driving to and from work is not a deductible expense, though driving between business locations is. |
|
Penalties & Fines |
Late submitting your tax return? The penalty for that late submission is not deductible. Nor is the parking ticket you received last week, even if you were visiting a client. Any fine or penalty paid to the government, whether state, local, or federal, is not deductible. |
|
Political Contributions |
Payments that directly help a particular political candidate are not deductible. Lobbying expenses are also not deductible. |
|
Illegal Payments |
This should go without saying, but any illegal payments such as bribes or kickbacks are not deductible. |
|
Entertainment |
While you can still deduct a portion of your meals, entertainment expenses such as tickets to a sporting event are no longer considered a deductible business expense. |
Ways your small business can keep track of your business expenses
There are numerous ways you can keep track of business expenses, including the following:
1. Manually
The shoe-box method is not really recommended, but you can write down a business expense as it occurs, and place the related receipt into an envelope for reference.
If you only have a few expenses a year, this method will likely be sufficient. If you’re only tracking sporadic business expenses, the odds of your remembering to record the expense and save the receipt are slim.
2. Using spreadsheets
Spreadsheets are a step up from simply writing down your expenses, but you still have to remember to add them to your spreadsheet, and you still have to save receipts.
Expenses can be tracked on a Microsoft Excel spreadsheet. Image source: Author
While using a spreadsheet provides additional expense organization, if you have regular expenses every month, you’ll want to make the jump to an application that can help you track your expenses properly.
3. Accounting software
Accounting software is a big step up from manually recording expenses or entering them on a spreadsheet.
Many small business accounting software applications on the market today include the option to upload receipts from a smartphone directly to the software, creating a permanent record of the receipt should you need it.
The Expense Management feature in QuickBooks Online makes it easy to manage expenses. Image source: Author
As a bonus, all of your business-related expenses are recorded on a regular basis, making it easy to track and deduct expenses where appropriate.
4. Expense management software
If you or your employees frequently travel, need to track daily mileage, or need to track hotel and meal expenses, using an expense management app may be a good option for your business.
Designed to make it easy to track all of your expenses, you’ll be able to upload receipts, track mileage, and book flights all from the app. As a bonus, most of the apps integrate with accounting software applications, so you won’t need to worry about duplicate data entry.
Start tracking business expenses today
It’s important to keep track of all of your business expenses, not just the ones that provide tax write offs. Any of the methods listed above are better than not tracking your business expenses at all. Here are a few more reasons why you should track your expenses:
Accurate financial statements: You won’t be able to create an accurate balance sheet or income statement if you’re not properly tracking your expenses.
Taxes: Come tax time, you won’t have the necessary expense totals, or the backup, needed to write those business expenses off.
Spending controls: How will you know that you’re spending too much money on office supplies if you’re not tracking those expenses?
If you’re still tracking business expenses manually or using a spreadsheet, why not move up to accounting software or expense management software? The end result will be less work for you and a much better handle on your expenses.
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