With April around the corner, tax season is officially in full swing. Running your own business provides tons of freedom and flexibility, but managing taxes can be a pain! Knowing what tax deductions are available to you saves you money and frustration – and since many of us have recently switched to working from home, there are a few items you might not even realize you can deduct.
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Am I missing out on small business tax deductions?
Reducing costs and running your business lean are great ways to improve profitability. But if you’re not paying attention to what you can and can’t write off, you might end up with an unwelcome surprise at tax time.
If you’ve recently switched to working from home, you’ll need to rethink the way you file, as your expenses have likely changed. Some costs may have risen, and others might have gone away completely. So, in best practice, you should revisit the categories in your checklist.
Some business owners might have experienced a surge in business, increasing profitability and potentially putting you in a different tax bracket altogether. This has undoubtedly been the case for many freelancers, who now need all the help they can get to ensure they don’t end up with a massive amount owing. There is no doubt about it, 2020 was a pivotal year for many reasons, and a little planning goes a long way!
What qualifies as a business expense?
Determining what qualifies as a business expense isn’t always cut-and-dried. Every industry has specific activities critical to operations, but not all of these things are common to every type of company.
For example, if you’re working at home and don’t interface with the public, you probably can’t write off your wardrobe or dry cleaning. But if your livelihood depends on specific software, computers, tools, or materials, those are all deductible, as is a portion of your costs for housing, utilities, and internet.
The IRS leaves it up to you to decide what’s essential – in other words, there are no clear guidelines. However, if you choose to deduct things that are coasting the line, keep in mind that excessive amounts might send up a red flag and increase the potential for audits.
A good rule of thumb is to keep all receipts and invoices. Itemize them under categories, so it’s easy to add them up. If you are already an Invoice2go customer, we’ve got plenty of nifty tools to help you stay on top of everything from payments to purchasing. Capture your receipts in the mobile app when you incur the expense, categorize it, and attach an image of the receipt. Your expenses are then viewable on your expense journal report and fully itemized when you’re ready to send to your tax professional.
If you typically pay an estimated tax amount, you might want to recalculate the amount you pay, as some of the guidelines have changed.
What’s new for 2020 tax filing?
If you received any federal COVID-19 relief funding through the CARES Act, such as through the Paycheck Protection Program, some of the money you received might be “forgivable.” You won’t have to pay tax on forgivable amounts, but the remainder is considered taxable income.
Other changes under the CARES Act include:
- You can now spread out the employer portion of your payroll tax payments over the next two years instead of having to pay it this year.
- You can write off any expenses incurred to make your location COVID-safe, including PPE expenses for you and your employees.
- If you expect to receive a corporate alternative minimum tax credit at the end of this year, you can claim a refund.
- The amount of interest payments you can deduct is now 50%, up from 30% over last year.
Additionally, if you were closed even partially during the lockdowns, you might qualify for the Employee Retention Tax Credit.
If you paid employees while they were sick or caring for a sick family member, you could be eligible for a 100% deduction on those amounts under the Families First Coronavirus Response Act. Additional credits under the act include a healthcare plan and other sick leave expenses.
15 Business small business tax deductions you might not know about
We’ve left off a few standard deductions, such as medical, vehicle, and travel expenses, as most of those are things you would deduct anyway. If you previously had many deductions related to travel, you probably won’t have as much to leverage in 2020, but hopefully, you can make it up in other areas.
Business phone lines are always 100% deductible, as is office furniture in the year of purchase—which is excellent news if you switched to working at home and had to outfit a new home office!
So in the effort to help you get through tax season (relatively) unscathed, here are 15 common deductions all freelancers and small business owners should know about:
1. Business Meals and Entertainment
Client meals that you conduct for business purposes are partially deductible, usually up to about 50%. Office meals and snacks also qualify, so if you’re filling the fridge and stocking the coffee station for your employees, all of that counts.
Also, for meals where the taxpayer is present and as long as the food and drink provided are “not extravagant,” the 50% deduction applies to meals or events attended with a customer, client, consultant, or business contact.
There are a few “fine print” rules you might want to note as well. Specifically, if you attend an event with a business colleague or employee, the food and drink consumed at the event can’t be deducted if the charges are billed separately or stated on more than one bill or invoice.
2. Professional Services
Any amounts you pay to an attorney or accountant related to your business are deductible, as are consultant services. For example, if you hired a management consultant to improve operational safety or brought on a marketing consultant to revamp your advertising campaigns, those all qualify, usually at 100% of the cost.
3. Freelance Labor Costs
Hiring freelancers are a great way to access highly skilled workers on an as-needed basis. All fees and costs you pay to freelancers fall under the same umbrella as independent contractors. If you pay any contractors or freelancers more than $600 in a calendar year, you must issue them a 1099-MISC.
4. Salaries, Benefits, and Commissions
Your employee’s salaries, benefits, and commissions are all part of your cost of doing business; therefore, they are deductible. Expenses under this category include contributions to HSPs, life insurance, profit-sharing, and pensions.
5. Charitable Donations
Did you help out any charitable organizations in 2020? If the organization is accredited, your donation might qualify for a 100% small business tax deduction. Charitable donations are a great way to help others and reduce your tax burden.
6. Education and Training
Any work-related education and training you paid for, whether for you or your employees, is tax-deductible. Expenses must be relevant to your industry or necessary to maintain compliance to qualify. New certifications are eligible, especially if they add value to your business. Some industries require periodic re-assessment or continuing education to maintain licenses, and all of these are eligible deductions.
If you are filing for the American Opportunity Tax Credit, you could be able to deduct up to $2500 per student. However, the training must be directly related to your business niche and come from an eligible school. You must have the educational institution’s EIN (employer ID number) to include on Form 8863.
Business insurance varies, depending on the industry you’re in and what’s required for you to have in place. Premiums for insurance that are directly related to your business are deductible. Eligible types of insurance include:
- Professional liability insurance
- Business vehicle policies
- Malpractice insurance
- Casualty insurance
- Property insurance
- Employee theft insurance
- Business interruption insurance
- Key-person life insurance (for your directors/executives)
- Workers Compensation insurance
- Any insurance related to your home office space
- Your health insurance premiums if you are self-employed
If you are unsure what kinds of insurance premiums you can deduct, speak with your accountant or tax professional.
8. Moving Expenses
If you’ve had to change locations or move out of your previous space, claim these expenses. Check with your accountant to see how much you might qualify for. The amount you deduct might be higher if the new location is more than 50 miles further away from your home.
9. Home Office Expenses
If your home is your principal place of business, you can write off $5 per square foot of dedicated business space—up to a maximum of 300 square feet. You can also deduct the relative portion of your utility payments and homeowners insurance. For example, if you are claiming the maximum of 300 square feet, you’ll need to figure out what portion of your utilities apply to that space. Be sure to keep detailed records, just in case you need them for an audit.
If you’ve made renovations to your home to accommodate business use, or if you’ve renovated parts of your home that are used exclusively for business, these are also tax-deductible.
11. Equipment Rental, Lease, or Purchase
Any equipment you need to conduct business, including computers, machines, tools, and so on, can be deducted. If you rent or lease, these expenses are eligible with no depreciation in the year the expense was incurred. Software is fully deductible as well, including all subscription-based SaaS. New equipment purchases may be subject to a depreciation tax break, allowing you to deduct 100% of the cost.
To qualify, your business equipment must:
- Be used in the business
- Produce income
- Last more than one year
- Eventually wear out or lose value over time
Under this category, you cannot write off property, land, HVAC systems, or inventory.
12. Startup Expenses
If you started a business in 2020, you could be eligible to deduct up to $5000. The expenses must be related to activities that happened before you opened for business but can include the legal costs of establishing your company, marketing, and costs related to recruitment.
13. Office Supplies
Whatever you need to operate your business from day-to-day that falls outside the equipment and software category can be grouped under office expenses. Any postal services, courier, delivery, etc., can also be deducted. Be sure to keep detailed records and receipts.
14. Interest, Bank Charges, and Taxes on Business Expenses
Fees you pay to your bank for your business accounts are tax-deductible, as is the sales tax you pay on business expenses. This category also includes annual credit card fees and the interest you pay on business purchases, loans, and credit lines associated with your company.
Business loss comes in many forms. Loss could result from theft or vandalism, and it could also occur because of extreme weather, natural disaster, or bad debt. In the case of insurable loss from a disaster, like a hurricane, severe storm, flood, or fire, you might be able to deduct the portion your insurance company didn’t cover. If some of your customers defaulted on their invoices, you can deduct the unpaid amount in certain circumstances. Essentially, you’ll need to prove that the amount is indeed a “bad debt” and not just an overdue invoice. Talk to your accountant about what might or might not be eligible.
With tax season looming, it might seem like the tribulations of 2020 are far from over. However, with a keen eye, a sharp pencil, and sound advice from a qualified tax professional, you can make it work and get all the small business tax deductions you quality for.
Organization and planning are critical to small business success. Whether you work solo or manage a team of your own, Invoice2go is here to help you grow.