Taxes are a part of life, and almost every adult has to deal with them, especially if they run a business or earn an income. Tax laws are complex and designed for different kinds of taxpayers. That means you may be able to save a lot of money by looking into the type of deductions available to you. Consider the small business tax deductions in 2020 carefully before filing tax to get maximum savings.
What is Tax Advantage or Tax Deduction?
A tax advantage or deduction is the process of reducing the taxable income of a company based on its expenses and investments. You can write-off certain expenses and deduct that amount from your company’s overall taxable income, and these should fit the criteria set by your region’s tax authority. For example, small business owners in the US must follow the IRS regulations and guidelines to get tax deductions.
It is crucial to study the regulations carefully or consult with an expert before adding a write-off to your tax filings. Errors can lead to legal repercussions down the line. Business owners must also know the difference between tax credits and tax deductions to understand which one is most suitable for them. Deductions are an excellent option for companies with high taxable income. Credits are a better solution for businesses in the lower tax bracket.
Keep your location in mind as the small business tax deductions in Canada are different from those in the US. The options mentioned below apply to US businesses.
List of Deductible Business Expenses
You can only deduct expenses that are considered ordinary and necessary by the government. Ordinary expenses are the general costs of running a business in a specific industry. These expenses are considered industry standards and are accepted by most companies in the field. Necessary expenses are costs that help launch, promote, and keep the business running. All personal expenses aren’t deductible, so using company vehicles for private transport can’t be deducted from taxable income. Here’s a small business tax deductions worksheet that can help:
1. Business Income Deduction
Small businesses like sole proprietorship, corporation, S corporation, partnerships, and entities that report their operations through Form 1040 can get business income deduction of up to 20% upfront. For example, if your taxable income is $150,000, you will get a deduction of $30,000. There are some limitations for high-income earners like single filers who earn more than $160,700. Small businesses can also benefit from lower tax rates and a 15.3% self-employment tax.
2. Start-up Cost Deductions
Governments always encourage start-ups because they can help reduce unemployment and boost local economies. That’s why small business owners get a start-up tax benefit of around $5,000. If your start-up cost exceeds $50,000, you can deduct $5,000 from the taxable income. Start-up costs can include expenses for creating a business, acquiring an existing venture, or conducting an investigation to start a business.
3. Home Offices Deduction
Advancements in telecommunication technologies and the current business environment have encouraged several business owners to work from home. If you use a portion of your home as a workplace regularly, you can deduct the related expenses from your taxable income. There are several ways to approach it:
- Simple Deduction – Business owners can deduct $5 per square feet of a residential area used for business with a limit of 300 square feet.
- Standard Method – Entrepreneurs can track all expenses of maintaining a residence like a mortgage, cleaning, rent, real estate taxes, repairs, utilities, etc. They multiply by the percentage of the area dedicated to business.
You’re only eligible for this deduction if the home office is used regularly and exclusively as a business place.
4. Retirement Plan Deductions
Businesses can invest in retirement plans for both employers and employees to get tax deductions. You can invest in Simple Plan or 401(k), IRA, SEP IRA, or Simple IRA plans. In many cases, businesses can benefit from a 50% tax credit on the first $1,000 incurred when starting a plan.
Choosing the right plan can help you save a lot of money and help create a security net. This is one of the most underutilized small business tax deduction secrets. Creating a retirement plan for your employees can help your business in the long run.
5. Business Expenses
Most businesses have to deal with a wide range of expenses ranging from raw materials to insurance fees. Many of these essential expenses are deductable:
- Essential business meals.
- Business insurance premiums.
- Bank fees for accounts, transfers, and credit cards.
- Transaction fees levied by payment processors like PayPal or Stripe.
- Business use of a car.
- Business property rent or mortgage.
- Advertising and promotion expenses, including designing a logo, launching a website, and hiring marketers to run professional campaigns.
These are some of the most essential expenses you can deduct from a business’s taxable income. Create a small business tax deductions checklist in PDF so you can keep track of all company deductions.
Essential equipment and tools depreciate over time. Things like computers, phones, servers, company vehicles, furniture, etc., will suffer wear and tear regularly. You can either write-off all the depreciation costs up-front or spread it out over the years of use. Calculating depreciation can be complicated because there are different assets of varying values involved. The IRS also provides various options like:
- De Minimis Safe Harbor Election
- Section 179 Deduction
- Bonus Depreciation
Consider speaking with an expert to know more about these options and calculate what you can claim in the current tax year.
Other S Corp Deductions in 2020
You can also deduct many other essential and regular expenses, including some personal expenses like charitable contributions, healthcare costs, child or dependent costs, and retirement contributions. Other deductions include:
- Educating staff members and employees.
- Legal and professional fees.
- Expenses of moving to a different business location.
- Salaries and benefits offered to employees.
- Business travel expenses.
- Telephone and interest expenses.
If you are interested in saving money on tax in the long term, consider researching the best businesses to start for tax write-offs. Like internet businesses, daycare centers, tutoring or education ventures, etc., most home-based businesses offer excellent tax benefits.