On Wall Street, there’s a saying that past performance is no guarantee of future results. When it comes to taxes, however, past performance is a great indicator of the types of deductions that businesses typically take each year.
Last winter the IRS released data on Schedule C filers. Here are some of the most popular tax deductions for small business that were claimed by sole proprietors as determined by the dollar amounts, starting with the largest category. The same types of deductions can be claimed by other entities — C corporations, S corporations, partnerships, and limited liability companies (LLCs) (although there may be slightly different rules for some deductions). See which of these tax deductions for small business apply for your 2015 tax return.
Top Tax Deductions for Small Business
Car and Truck Expenses
Most small businesses use a vehicle, such as a car, light truck or van. The cost of operating the vehicle for business is deductible only if there are required records to prove business usage. In deducting costs, the need to keep records of cost (e.g., gasoline, oil changes) is eliminated if you rely on the IRS standard mileage rate of 57.5 cents per mile in 2015 instead of deducting your actual outlays.
Salaries and Wages
While payments that sole proprietors, partners, and LLC members taken from the business are not salaries (they are nondeductible draws), payments to employees are deductible.
Contract Labor
Many small businesses use independent contractors to meet their labor needs. The cost of such contract labor is deductible. Be sure that you issue Form 1099-MISC to any such contractor receiving $600 or more from you in 2015 (if payment is made to the contractor via credit card or PayPal, it’s up to the processor to issue them Form 1099-K, but you may want to send your own 1099-MISC for personal protection).
Rent on Business Property
The cost of renting space — an office, storefront, factory, or other type of facility — is fully deductible.
Depreciation
This tax deduction for small business is an allowance for the cost of buying property for your business. It includes the Section 179 deduction for equipment purchases up to $500,000. It also includes 50 percent bonus depreciation.
Supplies
Items used on a business (e.g., cleaning supplies for a cleaning service) are fully deductible.
Utilities
Electricity for your facility is fully deductible. Other utility costs include your cell phone charges. If you claim a home office deduction, the cost of the first landline to your home is not deductible. If you have a second line, it is a deductible utility cost.
Taxes
Deduct state and local sales tax you charge on your goods and services; the amount you collect from your customers is part of your gross receipts, so this deduction is merely a wash. You can also deduct licenses and regulatory fees and taxes on real estate and personal property. Your employer taxes, including the employer share of FICA, FUTA, and state unemployment taxes, are fully deductible. However, for self-employed business owners, the deduction for half of your self-employment tax is not a business deduction; it is an adjustment to gross income on your personal income tax return.
Repairs
The cost of ordinary repairs and maintenance are fully deductible. However, costs that add to the property’s value must be capitalized and recovered through depreciation (although there are some exceptions).
Insurance
The cost of your business owner’s policy, malpractice coverage, and business continuation insurance is fully deductible. However, there are two rules to note for health coverage. A small business may qualify to claim a tax credit for up to 50% of the premiums (a better tax break than a deduction). Also the cost of health coverage for self-employed individuals and more-than-2% S corporation shareholders is not a business deduction. Instead, the premiums are deducted on the owner’s personal tax return.
Commissions
They are fully deductible.
Advertising
Ordinary advertising costs are fully deductible.
Travel
If you or staff members travel out of town on business, the cost of transportation (e.g., airfare) and lodging is fully deductible. You must meet substantiation requirements explained in IRS Publication 463 to claim any travel deduction. However, local commuting costs usually are nondeductible.
Home Office
A portion of personal expenses of a home are deductible as a business expense if the home is used regularly and exclusively as the principal place of business, a place to meet or deal with clients or customers, or as a separate structure used in the business. The deduction includes both direct costs (e.g., painting a home office) and indirect costs (e.g., the percentage of rent or mortgage interest and real estate taxes that reflect the percentage of business use of the residence).
Legal and Professional Fees
Legal and accounting fees are fully deductible.
Meals and Entertainment
These costs are deductible only up to 50%. Thus, a business lunch is half on you and half on Uncle Sam. And the deduction can only be claimed if you substantiate the expense (see IRS Publication 463).
Rent on Machinery and Equipment
Fees paid to lease or rent items used in your business are fully deductible.
Interest on Business Indebtedness
Interest on loans that the business takes usually is fully deductible as a business expense (e.g., interest on a line of credit used in a construction business). However, it’s a different story for loans by owners. Distinguish business interest from an owner’s investment interest or passive activity interest, which is not a business deduction. For example, an individual who takes a personal loan to buy shares in an S corporation must allocate the debt proceeds to the business assets. If the assets are all used in the business, then the owner’s interest is deductible business interest. If some assets are investments, then a portion of the interest is investment interest. If some assets relate to a passive activity, such as rental realty, the allocable interest is passive activity interest.
Employee Benefit Programs and Qualified Retirement Plans
The cost of employee benefit programs, such as education assistance and dependent care assistance, as well as contributions to employees’ qualified retirement plan accounts, is deductible. For self-employed individuals, contributions to their own qualified retirement plan accounts are personal deductions claimed on Form 1040.
Mortgage Interest
Businesses that own realty can fully deduct mortgage interest. Unlike interest on a personal residence, there is no cap on the size of loans on which interest can be claimed.
Conclusion
Determine which of the tax deductions for small business on the list you can take on your 2015 business return. Discuss your situation with your CPA or other tax advisor to make sure you have done all that is required to qualify for a specific deduction.
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