When you launch your business and incur expenses before
your business is "open for business," then you have
start-up costs. Start-up costs are not deductible until
your business begins. Your business begins when it is
first open for business - meaning it is ready to service
customers.
First, make sure you actually have a business. Here are
nine (9) factors to determine if you really own and operate
a business:
1. You carry on the activity in a businesslike manner.
2. The time and effort you put into the activity indicates
that you intend to make it profitable.
3. You depend on income from the activity for your
livelihood.
4. Your losses are due to circumstances beyond your control
(or are normal in the start-up phase of your type of
business).
5. You change your methods of operation in an attempt to
improve profitability.
6. You, or your advisors, have the knowledge needed to
carry on the activity as a successful business.
7. You were successful in making a profit in similar
activities in the past.
8. The activity makes a profit in some years, and how much
profit it makes.
9. You can expect to make a future profit from the
appreciation of the assets used in the activity.
It's also important to remember that when they begin, most
new businesses lose money. In fact, the average business
will lose money for the first three years. You will want to
make sure you can take advantage of those losses by
offsetting them against your other income. If that happens,
you can roll the loss forward into the future until you
start making money. This is referred to as a net operating
loss.
What are start-up costs? Planning to get the most out of
any new business venture begins with making sure you get
the greatest possible tax advantages for your investigation
costs, start-up expenses, and other organization costs.
These include costs such as advertising, salaries and wages
of employees-in-training, travel and other expenses of
lining up customers, suppliers, and distributors, and fees
paid for consultants and professional services.
How are start-up costs deducted? You may assume that all of
these start-up expenses are deductible as business expenses
in the year you pay them, but that is not the case. Such
expenses are not considered to be business expenses because
they are not incurred in a business that has actually
started. Instead these start-up costs have special rules.
A taxpayer may elect to deduct up to $5,000 of start-up
costs in the tax year that the business opens for business.
The catch, however, is that the $5,000 amount must be
reduced by the amount of start-up expenditures that exceed
$50,000. If an election is made, start-up expenses that are
not deductible in the year the business opens for business
as a result of the phase-out must be ratably amortized over
180 months (15-years) beginning in the month that the
business opened for business.
Who can deduct start-up costs? Another complication with
start-up costs is that they are deductible or amortizable
only by the person who incurs them. If your new business is
going to be a sole proprietorship, that won't be a problem.
However, if the venture is to be a corporation, you can't
personally deduct the costs you incur before incorporation.
Those costs are part of your investment in the
corporation's stock, which is not a great tax position.
This can be avoided through proper planning. For example,
you may want to contribute the funds to the corporation and
let the corporation incur the expenses so that it can
deduct or amortize them.
Are any expenses excluded from start-up costs? It's also
important to know that some expenses are treated more
favorably than the regular start-up costs we have been
talking about, and some less favorably. Start-up costs for
interest, taxes, and research costs usually can be deducted
in the year paid. The cost of tangible property purchased
for use in the business can be recovered by way of
accelerated depreciation deductions over various periods,
depending upon the type of asset, but generally faster than
if considered under the general start-up cost umbrella.
Expansion costs are not start-up costs. If you are
expanding an existing business, rather than starting a new
one, you may be able to deduct the expansion costs
currently.
Important note about start-up costs An election must be
made on the business tax return to properly claim start-up
costs. Be sure to discuss this with your tax preparer.
Warmest Regards,
Tom
----------------------------------------------------
Tom Wheelwright is not only the founder and CEO of
Provision, but he is the creative force behind Provision
Wealth Strategists. In addition to his management
responsibilities, Tom likes to coach clients on wealth,
business, and tax strategies. Along with his frequent
seminars on these strategies, Tom is an adjunct professor
in the Masters of Tax program at Arizona State University.
For more information, visit http://www.tomwheelwright.com
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