Tax deductions are a great way for small businesses to reduce their income tax bill. Let’s take a look at twelve tax breaks every small business owner should know about.
What is a tax deduction?
A tax deduction is an expense you can deduct from your total taxable income. The approved expense is subtracted from the total taxable income, and therefore allows you to pay a smaller tax bill. But the deduction must fit the IRS-approved criteria. Remember to consult with your CPA or tax advisor before claiming a deduction.
The twenty percent deduction
The Tax Cuts and Job Act, or TCJA, is a newer tax break for certain eligible businesses. The TCJA reduced the corporate tax rate from 35% to 21% for large businesses. But a lot of smaller, “pass-through” businesses may be eligible to receive the new 20% deduction of their net income.
The 20% deduction is for certain small business owners whose income “passes through” to their individual Form 1040 from Schedule C and other assorted tax forms. Individuals in some service businesses, like law, accounting, and finance, only receive a reduced deduction if their income surpasses certain limits.
2. Home office deduction
Small business owners can claim their home office on their taxes, so long as the space is devoted to their business and strictly nothing else. The home office deduction is available for employers and employees who use a Schedule C, allowing sole proprietors who make a profit to deduct their home office. The home office deduction can be part of a room. Measure the office work area and divide by the square footage of your house. The percentage you reach is the fraction of your home-related business expenses -- including electricity, insurance, and more -- you can claim.
3. Office supplies
Office supplies purchased for a home business or seperate location are expensable. Keep those receipts for tax season and you’ll reduce your taxable business income.
4. Produced furniture and equipment
Under Section 179, business owners who make office furniture and acquire equipment can deduct up to $1,000,000 worth of their purchases.
Section 179, as defined by the IRS, “allows taxpayers to deduct the cost of certain property as an expense when the property is placed in service. For tax years beginning after 2017, the TCJA increased the maximum Section 179 expense deduction from $500,000 to $1 million. The phase-out limit increased from $2 million to $2.5 million. These amounts are indexed for inflation for tax years beginning after 2018.” Nothing about the IRS is ever straightforward, but essentially, business owners can deduct the full price of qualified equipment rather than a certain percentage under a multi-year schedule, as was customary previously.
The new section is confusing to say the least, but it’s worth consulting about with your CPA if you’re interested in expanding your business. Some examples of qualified purchases include:
Equipment and machines bought for business use
Improvements to interior commercial property
Trucks, SVUs, and vans weighing more than 6,000 pounds
5. Electronics and software
Laptops, tablets, computers, and software have become invaluable in today’s workplace. Thankfully, you can deduct part of their costs from your taxes. Tech purchased at $2,500 or less can be expensed the same year it was bought; if certain software or laptops cost more than $2,500 must depreciate before you can claim them as deductions. Custom software is not currently eligible for tax breaks, neither are websites or databases.
A note on purchased software: Under Section 179, computer software is expensable in the year it was purchased, and it must be available for all consumers.
6. Driving expenses
Most folks know their driving expenses (milage, parking costs, tolls, ect) are deductible. So let’s look at two common tax deduction choices:
Total your business driving expenses against your personal driving and subtract that portion from your driving expenses. Include insurance, gas, and repairs.
Add up your total business mileage and include tolls and parking. Multiply the mileage total by 54.5 cents for the total 2018 deduction.
If your office is located in your home, you’re allowed to deduct entire miles once you pull out of the driveway. If the business is not located at your house, the deductible mileage starts at the first business-related stop and ends at the last. You cannot include the distance commuted to work from your home. Remember to include lease payments if you lease your car.
Note: if you claimed your vehicle under Section 179, you are not eligible for a business mileage deduction.
7. Meals and travel expenses
Say goodbye to the business lunch. Under the TCJA, old-school business practices like the “liquid lunch,” sporting event, or golf outing are no longer deductible. At least, not entirely. Meals are still eligible up to 50% as long as they’re not “lavish or extravagant.”
8. Insurance premiums
Freelancers and self-employed workers who pay their own health insurance premiums will be happy to note that these are generally deductible, under certain circumstances. The deduction cannot be more than your net profit, nor are you allowed to qualify if you meet other health care coverage, such as plans offered by your spouse.
9. 401(k) and other retirement contributions
If you’re self-employed or a freelancer who makes contributions to a 401(k), IRA, or other retirement savings accounts, these can be deducted from your personal income tax return.
10. Social Security taxes
Federal law requires employers and employees to contribute to Social Security. Both of their contributions add up to 15.3%. This split isn’t so bad if you’re either the owner or the employee, but if you’re starting a business and are the sole employee of said business, you’re slapped with paying that 15.3 percentage from your net profit. Steep, to be sure, but you can deduct half of the contribution from your 1040 Form.
11. Business phone charges
If you conduct your business from home on a landline, and solely use the line for business-related calls, it is a tax deductible expense. But because nearly everyone uses a cell phone to make calls, business owners can claim the percentages of calls they make as a tax deduction. For example, if 40% of your cell phone calls are business related, you can deduct 40% of your phone bill.
12. Child labor
If you run a business and employee your children, you may be eligible to deduct their salaries from your business income if they meet certain IRS requirements. However, the tax break is only available if you are the sole proprietor or if you and your spouse are the only partners.