Everyone has that neighbor. You know the one. He works in the entertainment business, so his CPA told him he can write off all his movie tickets as research expenses. “You’re not writing off your boat as a business expense?” he asks. “But didn’t we talk about business when we were out on the water last week?”
There is a common misconception that starting a business will allow you to “write-off” a bunch of stuff. Sure, a business will have expenses – but just because you have a business doesn’t mean every dollar out of your checking account is suddenly a tax deduction.
Here is just a sample of some of the deduction questions I hear on a regular basis:
As a corporation, we’re required to hold a board meeting every year. So, my wife and I went to Fiji for last year’s board meeting. That’s deductible, right?
I’m in sales. I have to look good. All my clothes, haircuts, makeup, and my gym membership – they’re all deductible, right?
I signed up to be an independent distributor for my favorite jewelry designer. Now all the jewelry I buy for myself and gifts I buy for my friends are deductible, right?
I do a lot of business on the golf course. My country club membership is deductible, right?
Let me start by saying – if you started your business as some kind of elaborate strategy to reduce your taxes, you are doing it wrong. There may be people who get away with it – but that doesn’t make it legal. Your business has to be trying to make money – even if it doesn’t.
What is Deductible?
But for legitimate business owners – one of the first questions they usually ask me is “What can I write-off?”
While the IRS code is not easy to understand, figuring out what is deductible is actually easier than you might think. The rules say that a business expense must be both “ordinary and necessary” – but what does that mean? Well, if you’re paying for something that is business-related – and the expense is neither exorbitant nor personal-use only – then you can deduct it.
Not sure if an expense is deductible? Ask yourself these 3 questions:
1. Did I spend money on something? Business owners will tell me about the 5 hours of work they put into a job that they never got paid for – and then say they want to “write it off”. Write what off? If you didn’t spend money, there isn’t anything to deduct.
2. Was it used for my business? Anything that is 100% for your business is probably deductible. If it is 100% for personal use, it’s not. If it’s a mix of both, you might be able to deduct part of the cost. Be honest here, just because you could imagine a possible reason to use that new flat-screen TV for work, if you aren’t actually using it for work, it isn’t deductible.
3. Would someone else in my line of business also have this type of expense? Even if you pass the first two tests, you can’t deduct an expense if it’s out of the realm of normal business practices. Let’s say you did have that corporate board meeting in Fiji. Was that really “ordinary and necessary” for a small plumbing business?
Some of the confusion is caused by the fact that the exact same expense may be deductible for one business, and not another. If you design video games – maybe that ticket to Comic-Con is deductible. If you sell life insurance – maybe not.
That’s it, really. If you ask yourself these 3 questions, and you still come to the conclusion that the expense is legitimate, you can probably deduct it.
That being said, we wouldn’t be discussing tax if there weren’t some special rules to come along and muddy the waters…
Look Out for These Specific Business Expense Rules
Sorry sports fans. Under new tax laws, entertainment expenses, even if they are legitimately for business, are no longer deductible. That means those court-side seats just got a little more expensive.
The IRS is pretty strict on this. It has to be a true “uniform” – think of something with your name sewn on the chest. If you can wear it in public when you aren’t working, it isn’t a uniform. I wouldn’t wear a suit if I wasn’t working, but because I could wear it outside of work, it isn’t deductible.
Just because you answer some emails on your phone while sitting on your couch doesn’t mean you have a home office. Your home office has to be used exclusively for business (sorry, the dining room table doesn’t count). And it has to be your primary workplace – if you have a real office you go to most of the time, you probably can’t deduct your home office.
If you own your own business, you’re probably doing some driving that is business-related. But you probably also drive to the grocery store every now and again. Or that vacation to Arizona. You have to track your business mileage separate from your personal mileage. Don’t try to deduct 100% of your auto expenses if you have only one car.
Knowing what’s deductible will usually come down to common sense. If you’re spending money on something for your business, and you follow the rules above, you’ll be fine.
However, I’d always recommend speaking with an accountant to make sure you’re not playing it too safe. Don’t leave money on the table by not deducting something that you know, deep down, is 100% business-related, just because it seems a bit odd on the face of it. Sure, the IRS might question it – and the neighbors might talk – but if it’s a real business expense, you’re well within your rights to claim it.