Small business owners tend to fall into one of two camps: those who deduct too little because they are not sure what qualifies, and those who deduct too much because nobody has told them where the line is. Both are expensive. Here is the middle.
The test everything has to pass
A business expense is deductible if it is ordinary — common and accepted in your line of work — and necessary — helpful and appropriate for the business. Necessary does not mean indispensable. It does mean you should be able to explain, in a sentence, what the business got for the money.
Categories most small businesses can claim
Home office
A space used regularly and exclusively for business. Exclusively is the word that disqualifies most claims — the dining table does not count. You can calculate the deduction by the simplified square-foot method or by apportioning actual home costs; which is better depends on your rent or mortgage, and it is worth running both.
Vehicle and mileage
Business miles are deductible; commuting miles are not. You can use the standard mileage rate or actual expenses, but the choice has consequences for later years, so make it deliberately. Either way, a contemporaneous log — date, destination, purpose, miles — is what substantiates the deduction. An app that runs in the background is the least painful option.
Equipment and supplies
Consumables are deducted in the year you buy them. Equipment with a useful life beyond a year is capitalised and depreciated, though provisions such as Section 179 and bonus depreciation often let you deduct much or all of the cost immediately. The right answer depends on your profit this year against your expected profit next year — this is one of the few places where deducting less now can be worth more later.
Professional services
Legal, accounting, bookkeeping and consulting fees connected to the business. The portion of your tax preparation fee attributable to the business schedules is deductible; the personal portion is not.
Insurance
General liability, professional liability, commercial property, business interruption and workers’ compensation. Self-employed health insurance is deducted separately, above the line, and is subject to its own rules.
Marketing and advertising
Website costs, advertising, printing, sponsorships and the tools you use to reach customers. Broadly deductible, and frequently under-claimed by owners who pay for these things personally and never move them into the business.
Software and subscriptions
Accounting software, industry tools, cloud storage, professional publications. Where a subscription has personal use as well, apportion it.
Travel and meals
Business travel away from your tax home is deductible, including lodging and transport. Meals have their own rules and are generally limited to a percentage of the cost. Entertainment, since the rules changed, is largely not deductible at all — the client dinner and the game tickets are not the same thing any more.
Wages, contractors and benefits
Wages you pay, employer payroll taxes, contractor payments, and retirement plan contributions you make for employees. If you pay a contractor more than the reporting threshold in a year, you have a 1099 filing obligation for them — a deadline that catches people out.
Retirement contributions
A SEP-IRA, SIMPLE IRA or solo 401(k) lets an owner move a meaningful amount of profit into a retirement account with pre-tax dollars. For profitable small businesses, this is usually the largest single lever available, and it is one of the few that can still be pulled after year end.
Where owners go wrong
- Mixing accounts. One business bank account and one business card solves more problems than any bookkeeping habit. Reconstructing a year from a personal statement is where deductions get lost.
- Paying yourself wrong. S corporation owners must take reasonable compensation through payroll. Distributions alone attract attention.
- Deducting the whole of something used partly at home. Apportion, and write down the basis for the split.
- Forgetting start-up costs. Expenses incurred before the business opened are treated under their own rules and are commonly missed entirely.
- Leaving it until March. Most of the meaningful decisions — equipment timing, retirement contributions, entity structure — have to be made before the year ends.
The record that matters
For each expense, keep what was bought, when, from whom, how much, and the business purpose. Digital receipts attached to the transaction in your accounting software satisfy all five at once and take seconds at the time. The alternative is remembering, three years later, what a $340 payment in June was for.
This article is general information about how the tax rules work, not tax advice for your situation, and the rules change. Speak with a qualified preparer — we are happy to be that preparer — before acting on anything you read here.