The outbreak of the coronavirus pandemic and its repercussions took a serious toll on small businesses across the United States. Not only did some businesses have to shut their doors for a period of time, but the ongoing labor crisis is making it difficult to do business even as lockdowns have reduced. As of February 2021, 53% of small business owners didn’t expect to return to the position they were in before COVID for at least six months.
In face of these current difficulties, one of the most effective and easiest ways for businesses to make themselves more profitable at their existing size and scale is to take advantage of small business tax deductions. This is also the case for independent contractors and self-employed people.
By using the full power of tax deductions for small businesses, you can significantly reduce your taxable income.
Let’s take a look at small business tax write-offs and what you need to know about them.
What Is a Tax Deduction?
Small business tax deductions are also sometimes referred to as small business tax write-offs. This is a tactic you can use to reduce the amount of taxes you owe. Basically, tax deductions are expenses that you can deduct from your income, therefore leaving you with a lower income than you are paying taxes on.
However, the expense has to fit the criteria of the IRS in order to be legitimate.
Small Business Tax Deductions: The “Ordinary and Necessary” Rule of Thumb
There is no list of all the different types of expenses that qualify as deductions for small businesses. Instead, there is a general rule of thumb for businesses that the expenses must be “ordinary and necessary” to the operation of your business. If it is, then it can be used as a tax-deductible expense.
This basically means that you can write off expenses for certain items or services in order for your business to function, then they can be written off.
Qualified Business Income
The 2018 tax reform law changed how tax deductions work for small business owners and other taxpayers. Most small businesses are, under the new tax law, able to deduct 20% of their income.
However, there are a number of limits that are relevant and worth knowing about. For example, high-income business owners such as consultants, doctors, and lawyers might be affected by a rule that means that deductions begin to phase out at a certain income level.
Home Office Deduction
If you are a small business owner or self-employed and you use a portion of your home for business, you might qualify for a home office deduction. Unfortunately, people who work from home as the employee of another business aren’t able to benefit from this deduction anymore.
To learn more about home office deductions, check out this handy guide.
Business Use of Car Tax Deduction
You can deduct the use of your vehicle for business purposes. This can be done either using a standard mileage rate or with the actual expense method. The latter requires that you track all of the expenses put towards your car over the year.
If you are considering replacing or buying a vehicle that you are going to use for business purposes, an SUV might make sense. Check out this article to learn why this might be the right move for your business.
Business Retirement Plan Contributions
If you’re wondering how to save your small business from exorbitant taxes, paying yourself first is one of the most important steps. If you have any employees, you can help them save for retirement by setting up a retirement plan and you can even make contributions.
Advertising and Promotion Tax Deductions
You can deduct any costs that are used to advertise or promote your business. This includes things like paying for a website, digital marketing services, pamphlets, business cards, and more.
Advertising and promotion is a very broad category of business expenses. Some examples in addition to those mentioned above include:
- Marketing activities such as direct marketing
- Advertising in various media such as TV, newspapers, cable, internet, and magazines
- Public relations and promotional expenses like promotional items and sponsorship of sports teams
- Costs of producing advertising materials
- Online activities such as SEO services, pay-per-click advertising, and email newsletters
- Costs of advertising events such as special promotional events or publicity campaigns
As with other small business expenses, these costs need to be ordinary and reasonable in order to count as deductions. Even if something has some promotional value, primarily personal expenses cannot be deducted. For example, if you invite some of your best clients to your child’s wedding, wedding costs cannot be deducted.
Tax Deductions Legal and Professional Fees
You might have a bunch of professionals that help you run your business in any given year. If you do, and the fees incurred are necessary for your business to run then these costs can be tax-deductible.
Deductions For Business Meals
Business owners can deduct a percentage of their beverage and food costs. This expense must be an ordinary part of operating the business in order to be eligible for the deduction. It won’t go well if you try to write off lavish and over-the-top meals as business expenses, though.
It’s important to document these types of deductions. Keep records of where the meal was eaten and the date it was eaten on. Write down who attended and what the business relationship was between these individuals.
The relief bill that was signed into law on December 27, 2020, as a result of the COVID-19 pandemic contains a number of tax breaks for businesses. One of these is that the deduction for business meals was increased. You can learn more about this and the other implications of this bill here.
Tax Breaks For Internet and Telephone Expenses
There’s a good chance that your phone and your internet service is integral to running your business. If this is the case, then you can deduct these costs, even including your cell phone.
Business Insurance
The premiums you pay for business insurance are tax-deductible. This might include health insurance, liability coverage, business interruption insurance, workers comp, and more.
The Cost of Workers
If you ever hire freelancers or independent contractors, you should keep track of those expenses. You are required to send a FORM 1099-NEC to any independent contractors that make more than $600 working for you within a year.
Bank Fees
It can make it a lot less stressful to file your taxes if you keep separate bank accounts and credit cards. When you are charged fees on your business accounts, these fees can be deducted. You can also deduct transaction or merchant fees if your business accepts credit cards.
Education Expenses
You can also get tax deductions for small businesses with education expenses if the education can help increase your level of expertise or bring value to your business. This can also include the expense of continuing education that is required in your field or profession.
Depreciation Expenses
This is a bit complicated and is likely worth talking to a tax-pro about rather than figuring it out for yourself. Basically, though, you can deduct for major purchases that depreciate.
Interest Deductions
You can also deduct interest that you pay to a credit card company or a lender. However, a number of conditions will have to be true for this to be possible.
For one, you must be legally liable for the debt. That means that if a close friend lends you money and you’re paying it back slowly over time, this doesn’t count.
Secondly, there must be an understanding between you and the lender that the debt is going to be repaid. If this isn’t the case then it is just a gift you were given.
Lastly, it is required that the relationship between you and the lender is a true debtor/creditor relationship. The IRS gives a lot of scrutiny to loans between family members or other related parties.
Rental Expenses
This applies to warehouse and office rentals but also to equipment. You can also deduct the rental of temporary space, such as co-working space.
Benefits and Salaries
You can deduct salaries, benefits, and even things like vacation time that you pay to employees. You can also deduct the cost of running payroll.
Postage and Shipping Expenses
It is increasingly common for businesses to be selling online or working virtually. This was really accelerated by the coronavirus pandemic and the worldwide lockdowns that accompanied it.
Luckily, shipping and postage expenses are tax-deductible. The expenses of moving equipment and inventory can also be deducted by business owners.
Licenses and Taxes
There can be a number of other fees and taxes that small business owners end up being stuck with. This might be in addition to the licensing required for operating the business. Luckily, there are a number of deductions that both small and large businesses can take advantage of in this realm.
Things like business licenses, real estate taxes paid on business property, personal property taxes, payroll taxes, state income taxes, sales tax, and more.
Travel Expenses
You likely didn’t spend a lot of time traveling for business in 2020, or probably not as much as usual. However, in general, you can deduct travel expenses when they are related to business.
You’ll want to document what the business purpose was every time your travel. This business must be ordinary and necessary to qualify as business travel. It also must be away from your tax home, which is considered the entire area or city where you conduct business.
The travel expenses that are approved by the IRS as deductible for business purposes include:
- Using your car while at a business location
- Travel to and from your destination
- The cost of Ubers, taxis, or other methods of transportation
- Toll and parking fees
- Dry cleaning while on a business trip
- Meals and lodging
- Shipping baggage or display and sample materials
If you aren’t sure whether or not your travel counts as business travel, talk to a tax professional that can help guide you.
Personal Tax Deductions For Small Business Owners
There are a few other places where small business owners can benefit from deductions on their personal taxes. Let’s take a look.
Personal Retirement Contributions
As discussed previously, owners can deduct contributions made to the retirement plans of their employees (including the owner). Business owners can also make personal contributions to a Roth IRA or a traditional IRA or they can contribute as business employees.
Charitable Tax Deductions
Charitable contributions actually can’t be deducted as a business expense for LLCs, partnerships, and sole proprietorships. However, business owners actually might be able to deduct charitable givens from their personal taxes.
Up to $300 of cash donations can be deducted on personal tax returns starting with 2020 returns.
Small Business Tax Deductions Can Be a Life Saver
Running a small business is a lot of work and the coronavirus pandemic made it so owners had to become even more adaptable and creative to survive. If you aren’t taking advantage of all of the tax deductions for small businesses, you are reducing the profitability of your business and therefore your ability to grow.
The U.S. tax code is, unfortunately, complicated and dense. When you’re running a business, you hardly have time to also be a tax expert as well. For this reason, it can make sense to outsource this task to tax professionals who can help you reduce the amount of money you owe in taxes significantly.
Is it time for you to get your finances right and take advantage of small business tax deductions? If so, contact us today for a free consultation!