Preparing taxes for a small business or sole proprietor? Here are 6 tax deductions and write-offs that may reduce income tax for small business owners.
Are you leaving money on the table? If you're running your business as a sole proprietor (that is, your business is owned and run by just one person), chances are good that you may be missing out on some financial benefits when you file taxes. Given the complexity of the tax code, it can be hard to know what you can legitimately deduct without running afoul of the IRS.
Read on to find out how sole proprietorship companies can use tax policy to their advantage.
How Do Sole Proprietorship Companies File Taxes?
You don’t need to file any specific paperwork to be considered a sole proprietorship. Just make sure you’re in compliance with local laws, such as obtaining a business license or other required paperwork.
Since you and your business are a single entity, you’ll file income taxes on your personal income tax statement; the business won’t be taxed separately. It's often a good idea to make quarterly tax payments throughout the year, on April 15, June 15, September 15 and January 15.
Due to the Tax Cuts and Jobs Act passed in December 2017, you might be eligible for a tax deduction of up to 20% of your business income, hinging on a variety of factors including the type of business, total business income and your overall taxable income. For any questions related to your taxes, make sure to seek guidance from a tax professional.
Expenses Sole Proprietorship Companies Can "Write Off"
You often hear sole proprietors talking about various expenses as a “tax write-off.” That can be a huge benefit of owning a small business—you can deduct many ordinary business expenses from your taxable income, which allows you to pay a smaller tax bill.
But not everything you think is part of your cost of doing business can be deducted. Here are some dos and don’ts that will give you a clearer picture of what you can safely deduct. (As with any tax-related matters, double-check with a tax professional to ensure you are in compliance.)
1. Office Space
DO deduct for a designated home office if you don’t also have another office you frequent. Or, if you have a dedicated office, storefront or other facility, you can deduct your rent. For either option, you can also deduct expenses for supplies and even décor.
DON’T take a home office deduction if you work at your kitchen counter (or the bonus room or any other space that’s not solely dedicated as your office). Running your empire from your children’s playroom makes you an A+ multitasker—but it doesn’t qualify you for a tax deduction. In order to claim a home office exemption, the IRS requires that it be your principal place of business and that you use that room “regularly and exclusively” for your business.
2. Banking and Insurance Fees
DO deduct business-related banking fees and insurance premiums, such as your business liability or business continuation insurance.
DON’T deduct those expenses if you combine your business and personal accounts. In fact, the ability to clearly delineate between business and personal expenses is one of the key reasons you should separate your finances via discrete bank accounts and credit cards.
DO deduct mileage for client meetings and volunteer commitments. Beginning on Jan. 1, 2020, the standard mileage deduction for business use is 57.5 cents per mile driven for business use, and 14 cents for work related to charitable organizations. While the charitable rate remained the same, the 2020 business travel deduction is down a half cent from 2019. So, for your 2019 taxes that you will file in April, you can deduct 58 cents per business-related mile driven. (You also may calculate the actual cost of using your vehicle, rather than taking the standard mileage rates. More information on business mileage is available here.)
DON’T deduct for mileage incurred driving to a coworking space or other office space that’s part of your regular commute.
4. Client Appreciation
DO deduct for client gifts, up to $25 per client, per year. In other words, while you are free to gift them a more extravagant item or remember them at the holidays and their birthday, you can only deduct $25 worth for one annual gift-giving occasion.
DON’T deduct the full cost of client meals. While you used to be able to deduct the entire check when dining out, the Tax Cuts and Jobs Act reduced the amount allowed for meals to 50% of the total and completely removed the allowance for “entertainment,” such as attending sporting events or concerts.
5. Business Travel
DO deduct for travel related to business, such as client visits or conferences.
DON’T deduct any personal travel that was blended with a business jaunt. For example, you can deduct the cost of hotel stays for the days you were conducting business, but not the weekend if you chose to extend. Likewise, you can deduct your airfare, but not that of a spouse or other non-working traveling companion.
6. Professional Development
DO deduct for education related to maintaining or improving your business skills in your chosen field. Whether you’re taking a webinar or class, paying dues for your professional association or subscribing to online or print publications, you can deduct anything that’s designed to further your knowledge in your stated profession.
DON’T deduct for classes that you are taking in an effort to embark on a new career. Even if you’re hoping to change careers, those expenses are not allowable as deductions. (Until that is, you make the switch and then those items can be deducted going forward.) Furthermore, costs related to job hunting are no longer tax-deductible.
Sole proprietorship companies would be wise to take advantage of all the deductions for which they qualify, without crossing the line. Now is the time to talk with a tax professional or business banker about your tax obligation, as well as other issues related to future tax and wealth planning.
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The views expressed by the authors are not necessarily those of Fifth Third Bank, National Association and are solely the opinions of the authors. This article is for informational purposes only. It does not constitute the rendering of legal, accounting, or other professional services by Fifth Third Bank, National Association or any of their subsidiaries or affiliates, and are provided without any warranty whatsoever. Deposit and credit products provided by Fifth Third Bank, National Association. Member FDIC.