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Deducting Business Start Up Cost

Business organizational costs are amounts paid, or incurred, to create a corporation or partnership business entity.  Start-up costs are those paid or incurred for investigating or creating an “active” trade or business. Start-up and organizational cost include:

  • Analysis or survey of potential markets, products, labor supply, transportation facilities, etc.
  • Expenses incurred while investigating the purchase of a business.
  • Training wages for employees who will work in the business.
  • Travel and other necessary costs for securing prospective distributors, suppliers, or customers.
  • Cost of professional services, such as executives and consultants.
  • Legal fees incident to the organization
  • Accounting fees incident to the organization
  • Filing fees.

If you need a template to track your startup or organizational cost prior to deducting them, use this one from the fine folks over at Entrepreneur.com.

Deductibility.
Unlike expenses incurred as part of the normal ongoing operations of a business, one must “elect” to amortize (i.e. deducted over a period of time) organizational and start up cost  in order for them to be deducted.  The current rules allow for the following:

  • You are able to deduct up to $5,000 of your qualifying start-up costs in the first year.
  • The first-year deduction starts to phase-out $1 for $1 when your expenses reach $50,000.  Once your expeneses reach or exceed $55,000, the first year deduction is fully phased out.
  • Up to $55,000 of start-up expenditures can be deducted ratably over a 180-month period beginning with the month in which the active trade or business begins.

To aid in understanding how the above works, here is how you would make your first year deduction:

If start-up costs are $52,000, $3,000 can be deducted in the first year.  You can amortize the remaining start-up costs over 180 months starting with the month business begins.

Making the Election Electing the deduction.
The election to currently deduct up to $5,000 of start-up or organizational costs (or both) is made by claiming the deduction on the tax return for the tax year in which the trade or business begins.  Note that the tax return must be timely-filed, including extensions.  Furthermore, no separate statement is required for making this election.

Electing to amortize.
The election to amortize start-up or organizational costs (or both) is made by filing Form 4562, Depreciation and Amortization, and completing Part VI. Make sure that you:

  • Attach a statement listing a description and amount of each cost, date incurred (for organizational costs), month the business began or was acquired, and the amortization period (generally 180 months).
  • Use separate statements for start-up costs and organizational costs.

Correcting an omitted election.
An election to deduct or amortize costs that was omitted on a timely-filed return (including extensions) can still be made by filing an Amended Return within six months of the original due date of the return (excluding extensions).

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Business Start-Up Costs: Start-up costs are amounts paid or incurred for: (a) creating an active trade or business; or (b) investigating the creation or acquisition of an active trade or business. The fees you pay for can be written off/amortized over a period of 60 months or more.

Alimony: You may deduct the amount of alimony or separate maintenance in the year paid BUT, you must include in income the amount of alimony or separate maintenance you received.

IRS Statute of Limitations: Did you know the IRS only has 10 years from the date the tax is assessed to collect it?  But the IRS won’t tell you to stop paying them if the statute has expired; you’ll just have to know that you don’t have to pay them anymore.  Learn more in our post here.

Employing Your Children: You can hire and pay your children a reasonable salary to work in your business. Just make sure the job is within their ability and documented with a job description.  What’s more is the first $6,100 in wages (in 2013) will not create a tax liability for the child AND you can still claim them as a dependent on your tax return!

Business Clothing: Are you required to wear certain clothes as a condition of performing your job?  If they are not reimbursed by your employer AND not suitable for everyday wear, then the expense is tax deductible.  Wear a suit to court as an attorney?  Sorry, the IRS will probably disallow the expense if you claim it.