Member Expert Article: World of Taxes and Accounting
By: Mike Wright, Taxwright
The world of taxes and accounting can seem intimidating for business owners, especially if they are just starting out, or on their own.
Here are the five questions I am asked most often by business people learning the ropes.
Q. What expenses can I deduct?
A. All “ordinary and necessary” expenses are deductible.
The word ordinary means what would be expected for a business of your type and size. Likewise, necessary carries a definition that includes the type of business.
I like this explanation. Say you are putting in an office for yourself. You put fine silk wall coverings up, buy walnut furniture, perhaps some antiques and collector’s quality art works. Is this a deductible expense?
Well, if you were a hedge fund manager working with billionaire clients, maybe. If you were a Buy Here, Pay
Here car lot owner, no way. An office is necessary in both cases. But the nature of the furnishings could only be considered ordinary for the fund manager.
Q. Can I just deduct the full cost of every allowable expense?
A. Not all are deducted in the same way. Part of the decision of when to deduct is based on whether you keep your books by accrual or on a cash basis.
Other deduction decisions are based on the kind of item being expensed. Some items that have a lifespan of more than a year must be deducted over time. It’s called depreciation. And those items are called capital expenditures.
But there are even rules that make depreciation variable. There’s accelerated depreciation, straight-line depreciation and bonus depreciation, to name a few.
Then, Section 179 deductions must be considered. This section of the tax code allows the depreciation in one year of up to $1 million of depreciable assets. And while it might seem that common sense would dictate you take it all and run, there are planning considerations that have to be weighed.
Q. What happens if I have a loss?
A. Losses can be a businesses friend.
If you are a corporation, losses can be carried forward from one year to the next. This offsets future income and makes that profit in a future year tax free.
If you have a pass-through business, like a proprietorship, a partnership or an S-Corp, the loss can offset other individual income. And if there is still a loss, then that can be carried back to past years, or carried forward to the future like a corporation.
Q. Are my business meals deductible?
A. There was a lot of controversy in 2018 about that very issue. When entertainment was eliminated as a deductible expense (Congress decided it was never necessary even if it was ordinary), the fear was that simple business luncheons were lost as a deduction, too.
Well, that has proven not be the case. Meals that you share over a business discussion for planning or sales can still be deducted. Even the rules for meals before and after the same business meeting remain intact.
However, the change still requires that only 50% of the meal and tip is deductible.
Q. Do I need a separate business bank account if I’m just a one-person show?
A. Absolutely and irrefutably. One of the evidences of the fact that your operation is a business is the presence of business bank accounts separate from personal accounts.
Since the elimination of the hobby income rules, it is the business owner’s obligation to prove that he or she is actually operating a business. While profit is a good thing, it is not the only indicator that the activity is a business.
I hope this Q&A was worthwhile. Yes, I know many of the answers lead to more questions, but that’s the nature of things.
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