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Personal Tax Deductions: Tax Planning Tips to Avoid Tax Audits

One of the most common problems small business owners make when they’re first starting out is commingling their personal and business accounts. That’s how so many businesses find themselves within an IRS audit.

Business expenses are the cost of carrying on trade or business. As such, personal tax deductions, like living or family expenses, are not eligible to be deducted as business expenses. The IRS doesn’t allow expenses that qualify as personal tax deductions as business deductions. Doing so skews the information on your financial reports and obscures the true financial picture of your business.

Writing-off personal tax deductions through your company also means you’ll be unable to check the financial health of your small business. You may find yourself unable to make sound decisions for your company’s future because you lack accurate financial information.

So, what expenses are deductible through your business?

Personal Tax Deductions Versus Business Expenses

You cannot deduct personal, living, or family expenses from your taxable business income. If you were to buy personal items through a company account, these expenses would be considered fringe benefits, and as a result, they’d be subject to payroll taxes.

There are two ways you can view deductions on your federal tax return: itemized deductions or standard deduction. If you have no qualifying personal tax deductions or tax credits, the IRS allows you to take a standard deduction. A specific dollar amount that reduces your taxable income – on a no-questions-asked basis.

Allowable itemized deductions include mortgage interest, charitable gifts, unreimbursed medical and dental expenses, casualty and theft losses, and state and local taxes. Tax returns can range from simple to complex. A tax preparer can help you file your individual and business tax returns so you can get the best tax refund for your situation.

It’s crucial to draw the line between what’s personal and what’s business. This isn’t always possible, especially when you incur costs for something that’s used for both business and personal expenses. These include home office expenses or car expenses incurred while traveling for business.

Deductible Business Expenses

A tax deduction is an expense you can write off your taxable income. The expense has to fit the IRS criteria of a tax deduction to be eligible. Deducting business expenses reduces your company’s taxable income and the amount of tax you’ll have to pay. Section 162 of the tax code dictates that only ordinary and necessary expenses are deductible.

Unfortunately, the tax code doesn’t go into detail about what makes-up ordinary or necessary expenses. For this reason, it’s important to work with a tax professional when filing your tax returns.

Any tax expert will tell you that ordinary expenses are those you incur as the cost of owning a business. These are the expenses that are common and accepted in your trade. Ordinary expenses are considered deductible in the tax year they occurred.

Necessary expenses are those that are helpful and appropriate for your business. It’s important to note that an expense doesn’t have to be indispensable to be considered a necessary expense. Startup costs may also be tax deductible but have to be spread out over several years since they do not qualify as ordinary or necessary expenses. Instead, the costs of setting up a new business are deductible as capital expenses.

To be deductible, an expense must meet the following conditions:

  • It was incurred in the production of income
  • The expenses must be incurred, in that they’re not dependent on an event that may or may not occur in future.
  • The expense impacts revenue, and not capital, in nature

Non-deductible business expenses do not fulfill the above conditions. These include personal and capital expenditures. Prominent examples of “ordinary and necessary” business expenses include:

  • Wages or salaries paid to employees for their services.
  • Retirement plans such as 401(k), 403(b), and SIMPLE (Savings Incentive Match Plan for Employees).
  • Rental expenses
  • Any type of insurance acquired for professional business
  • Interest expenses on money borrowed for business activities
  • Various federal, state, local, and foreign because your business. Income tax does not qualify.

Other common tax-deductible business expenses include work-related travel expenses, business meals, office supplies, phone and internet fees, plus depreciation. You may also be able to deduct work-related educational expenses if you’re self-employed.

Still, this is not an exhaustive list of available business deductions. Seeking the help of a business advisor could support you make the most of both business and personal tax deductions. This way, you get to keep more of your business income.

In Search of the Best Tax Preparation Services?

It’s always best to start to file your taxes early enough. Planning ahead can help you file an accurate return and avoid processing delays. FMA CPA is a CPA firm in Clearwater providing business advisory services and is your best pick when it comes to tax preparation services.

Let us help you prepare for the upcoming tax season. Contact us today to schedule a free consultation.