Understanding business spending, specifically business expenses, can help the business owner monitor and predict costs looming in the near future. Business expenses should be tracked through your financial accounting system and reviewed monthly as part of your income statement. Creating the habit of tracking your expenses makes for a clear understanding of your business spending, creates accurate tax-ready financials, and is critical in understanding your business cash flow.
What are business expenses?
What do I need to write off business expenses? Who better to ask than the IRS, What Can I Deduct?
“To be deductible, a business expense must be both ordinary and necessary. An ordinary expense is one that is common and accepted in your trade or business. A necessary expense is one that is helpful and appropriate for your trade or business. An expense does not have to be indispensable to be considered necessary.
It is important to separate business expenses from the following expenses:
- The expenses used to figure the cost of goods sold,
- Capital Expenditure, and
- Personal Expenses
Which expenses can I deduct?
The IRS clearly states in great detail which business expenses are deductible. Small business expenses tracking can be different than their larger counterparts. Interestingly enough, many small business owners are unaware of the expenses that can be deducted. Here is a shortlist of the most common small business tax/expenses deductions:
- Travel & Entertainment (T&E). All expenses incurred related to business travel can be deducted at tax time. These include meals, airfare, rental cars, hotels, and other costs associated with travel. You can deduct fifty percent of meal purchases that qualify, and you must document the expense, including date and location, client or parties entertained, the total cost with tips. We suggest writing all this on the receipt at the time of the expense.
- Home office expense. The IRS is stringent and clear about what constitutes a home office expense. Click here for the Simplified Option for Home Office Deduction.
- Office-related expense. Running a business can be expensive, and not tracking the expenses can cost a significant amount of money. Keep receipts for office-related expenses, including:
- Utilities, phone, and internet
- Office supplies
- Services such as housekeeping, water, plant or fish tank maintenance services
- Financial expenses. It is best to consult with your accountant or CPA to ensure you are taking advantage of all allowable deductions, including:
- Bank fees
- Loans and leases
- Charitable contributions
- Real estate taxes
- Postage and shipping
- Monthly employee parking
What are some other types of expenses?
The IRS lists the following additional types of business expenses:
- Employees’ Pay– You can generally deduct the pay you give your employees for the services they perform for your business.
- Retirement Plans – Retirement plans are savings plans that offer you tax advantages to set aside money for your own, and your employees’ retirement.
- Rent Expense – Rent is any amount you pay for the use of property you do not own. In general, you can deduct rent as an expense only if the rent is for property you use in your trade or business. If you have or will receive equity in or title to the property, the rent is not deductible.
- Interest – Business interest expense is an amount charged for using money you borrowed for business activities.
- Taxes – You can deduct various federal, state, local, and foreign taxes directly attributable to your trade or business as business expenses.
- Insurance– Generally, you can deduct the ordinary and necessary cost of insurance as a business expense, if it is for your trade, business, or profession.
This list is not all-inclusive of the types of business expenses that you can deduct. For additional information, refer to Publication 535, Business Expenses.
What documentation do I need to record business expense deductions?
It is very simple: you need to be diligent and detailed. Itemization and good record keeping are the only way to ensure you will not have any IRS issues. You will want to keep copies of bills from vendors as support for your business deductions. Also, your financial accounting system will provide you with the ability to keep track of your expense deductions so you can review your spending.
What is the best way to keep track of business expenses?
Setting up a system to keep track of your expense deductions is easier today than ever before. If you use an electronic bill payment system, it will do everything from receiving bills to paying them. It will provide a digital cabinet for storing copies of invoices. These systems are becoming popular for small businesses as they ensure proper controls are put in place while creating a simple, easy to use system for processing bill payments. If you are using a manual system, you will need to set up a process that ensures that all bills are appropriately reviewed, entered into your accounting system, paid, and filed.
How does tracking expenses impact my bookkeeping and accounting process?
Accurate and up to date recording of expenses deliver the most accurate picture of your business’s health. Understanding expenses and costs and tracking them in your accounting program, such as an online bookkeeping service, ensures you view a real-time picture of your cash-flow and expenses.
Resources: https://www.irs.gov/businesses/small-businesses-self-employed/deducting-business-expenses#what, https://www.irs.gov/businesses/small-businesses-self-employed/simplified-option-for-home-office-deduction