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No Current Deductions Before Business Commences

June 21, 2019

After starting your new business, you may be wondering what expenses are tax deductible. If so, we have an explanation. Fortunately, you can deduct most of your startup costs from your business tax return. However, it’s essential to note that most of your expenses incurred prior to the start of your business cannot be deducted or amortized until the year of the business start date.

When Does a Business Start?

Before we dive into business expense basics, it’s helpful to determine your business start date due to the purpose of deducting startup costs. Determining this date depends on multiple factors. This date can typically be when a business first begins advertising or serving their customers, despite no sales having been made.

Business Expense Basics

If you review Section 162 of the Internal Revenue Code, you’ll discover that it allows current deductions for ordinary and necessary business expenses.

These expenses include but are not limited to:

  • Employee wages
  • Rent
  • Utilities
  • Advertising

Most of the aforementioned expenses can typically be deducted in the year when they are paid or incurred. Yet, it’s also important to note that Section 162-type expenses incurred by a start-up operation cannot be quickly deducted.

Section 195 Start-Up Expense Basics

Under Section 195 of the Internal Revenue Code, start-up expenses are Section 162-type ordinary and necessary business expenses incurred before a business activates.

These expenses include:

  • Creating an active trade or business
  • Investigating the creation or acquisition of an active trade or business

Section 195 enables taxpayers to deduct and/or amortize business start-up expenditures. It just so happens to be that up to $5,000 of start-up expenses can be deducted in the year when the business becomes active. Anytime preceding this moment will not qualify for deductions. Bear in mind that this $5,000 is reduced dollar for dollar by the number of cumulative start-up expenditures in excess of $50,000. The start-up expenses that cannot be deducted in the year when the active conduct of business begins will then become capitalized and amortized over 180 months. This will begin at the month of the business active date.

The takeaway

If there are expenses incurred before a business becomes active, they cannot be deducted or amortized until the year of the business start date. In other words, this would be the year that the business is officially ready to earn revenue.

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If you are interested in a prosperous future from a personal and/or business standpoint, reach out to our team of dedicated specialists. When considering accounting, audits, tax or business consulting, one call can make all the difference. Click here to get started. We look forward to working with you!

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