One of the simplest ways to reduce your income tax bill is to ensure you’re claiming all of the tax deductions available to your small business.
What exactly is a tax deduction?
A tax deduction (or “tax write-off”) is an expense that you can deduct from your taxable income. You take the amount of the expense and subtract that from your taxable income. Essentially, tax write-offs allow you to pay a smaller tax bill. But the expense has to fit the IRS criteria of a tax deduction.
Below you’ll find a comprehensive list of write-offs commonly available to sole proprietors, and businesses that are organized as partnerships or limited liability companies (LLCs). Some of these are directly related to running a business, and some are more personal deductions that a small business owner should be aware of.
Tax deduction savings
Making the most of all your available tax deductions can save you hundreds—even thousands—of dollars at tax time.
Let’s look an at example.
Joe is a self-employed writer and had $60,000 in self employment income in 2020. He has to pay 15.3% self employment (SE) tax plus income tax based on his individual tax rate. The SE tax on $60,000 is $9,180 and the income tax is $4,865, for a total of $14,045.
(For simplicity, we assumed Joe is single with no children and no other types of taxable income to consider.)
In early 2021, Joe joined Bench and his bookkeeper located $6,000 worth of contractor expenses that he was not aware of. These expenses count as tax deductions and reduce his net self employment income to $54,000.
Now, with $54,000 in taxable self employment income, he pays $8,262 in SE tax and $4,200 in income tax, for a total of $12,462.
That’s $1,583 in savings after including the contractor tax deduction.
By locating the $6,000 in contractor expenses, Bench was able to reduce Joe’s tax liability by over $1,500 dollars. A nice saving he can use to upgrade his laptop this year.
Repeat this for all the available deductions Joe had expenses for, and he can significantly reduce the income he has to pay taxes on—saving him thousands of dollars.
Staying on top of your deductions
As a small business owner, it can be difficult to know what deductions are relevant to you.
Many people struggle to stay on top of their deductions year round and instead try to piece things together at year end and run in to difficulties. Remember that restaurant expense you incurred in January last year? Most people don’t, and therefore they miss this tax write off. Add them all up and you’re missing out on a lot of tax savings.
That’s where bookkeeping comes in.
To claim these deductions, you’ll need to keep accurate records and stay on top of your monthly bookkeeping.
The top 16 small business tax deductions
Each of these expenses are tax deductible. Consider this a checklist of small business tax write-offs.
And remember, some of the deductions in this list may not be available to your small business. Consult with your tax advisor or CPA before claiming a deduction on your tax return.
Pop quiz: how much money did you leave on the table this tax season?
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Click the links below to skip ahead to a specific deduction, or keep scrolling to learn about them all.
- Advertising and promotion
- Business meals
- Business insurance
- Business interest and bank fees
- Business use of your car
- Contract Labour
- Home office
- Legal and professional fees
- Moving expenses
- Rent expense
- Salaries and benefits
- Telephone and internet expenses
- Travel expenses
- Bonus: Personal expenses
Advertising and promotion
The cost of advertising and promotion is 100 percent deductible. This can include things like:
- Hiring someone to design a business logo
- The cost of printing business cards or brochures
- Purchasing ad space in print or online media
- Sending cards to clients
- Launching a new website
- Running a social media marketing campaign
- Sponsoring an event
However, you cannot deduct amounts paid to influence legislation (i.e., lobbying) or sponsor political campaigns or events.
You can generally deduct 50% of qualifying food and beverage costs. To be eligible for the deduction:
- The expense must be an ordinary and necessary part of carrying on your business
- The meal cannot be lavish or extravagant under the circumstances
- The business owner or an employee must be present at the meal
You can also deduct 50% of the cost of providing meals to employees, such as buying pizza for dinner when your team is working late. Meals provided at office parties and picnics are 100% deductible.
Be sure to keep documentation for the outing that includes the amount of each expense, the date and place of the meal, and the business relationship of the person you dined with. A good way to do this is to record the purpose of the meal and what you discussed on the back of the receipt.
Further reading: How to Deduct Meals and Entertainment
You can deduct the premiums you pay for business insurance.
This may include:
- Property coverage for your furniture, equipment, and buildings
- Liability coverage
- Group health, dental and vision insurance for employees
- Professional liability or malpractice insurance
- Workers compensation coverage
- Auto insurance for business vehicles
- Life insurance that covers employees, as long as the business or business owner is not a beneficiary on the policy
- Business interruption insurance that covers lost profits if your business is shut down due to fire or another cause
Having separate bank accounts and credit cards for your business is always a good idea. If your bank or credit card company charges annual or monthly service charges, transfer fees, or overdraft fees, these are deductible. You can also deduct merchant or transaction fees paid to a third-party payment processor, such as PayPal or Stripe.
You cannot deduct fees related to your personal bank accounts or credit cards.
Business use of your car
Do you use your vehicle for business? If you use your vehicle solely for business purposes, then you can deduct the entire cost of operating the vehicle. If you use it for both business and personal trips, you can only deduct the costs associated with business-related usage.
There are two methods for deducting vehicle expenses, and you can choose whichever one gives you a greater tax benefit.
- Standard mileage rate. Multiply the miles driven for business during the year by a standard mileage rate. For miles driven in 2020, the standard mileage deduction is $0.57½ per mile. In 2021, it is $0.56 per mile.
- Actual expense method. Track all of the costs of operating the vehicle for the year, including gas, oil, repairs, tires, insurance, registration fees, and lease payments. Multiply those expenses by the percentage of miles driven for business.
Both methods require that you track your business miles for the year. You can keep a detailed log of your business miles, use an app to track your trips, or reconstruct a mileage log using other documents, such as calendars or appointment books. If you keep a mileage log, clearly document the miles driven, time and place, and business purpose of your trip.
Note that you cannot count the miles driven while commuting between your home and your regular place of business. These costs are considered personal commuting expenses.
If you hire freelancers or independent contractors to help in your business, you can deduct their fees as a business expense.
Just remember, if you pay a contractor $600 or more during the tax year, you’re required to send them a Form 1099-NEC by January 31st of the following year.
When you purchase furniture, equipment, and other business assets, depreciation rules require you to spread the costs of those assets over the years you’ll use them rather than deducting the full cost in a single hit.
Expensing these items upfront is more attractive because of the quicker tax benefit. Fortunately, the IRS gives business owners several ways to write off the full cost in one year.
- De minimis safe harbor election. Small businesses can elect to expense assets that cost less than $2,500 per item in the year they are purchased. You can read more about the de minimis safe harbor election in this IRS FAQ.
- Section 179 deduction. The Section 179 deduction allows business owners to deduct up to $1,040,000 of property placed in service during the tax year. This includes new and used business property and “off-the-shelf” software. The Section 179 deduction is limited to the business’s taxable income, so claiming it cannot create a net loss on your return. However, any unused Section 179 deduction can be carried forward and deducted on next year’s return.
- Bonus depreciation. Businesses can take advantage of bonus depreciation to deduct 100% of the cost of machinery, equipment, computers, appliances, and furniture.
If you purchased a new vehicle during the tax year, the IRS limits write-offs for passenger vehicles. In the first year, if you don’t claim bonus depreciation, the maximum depreciation deduction is $10,000. If you do claim bonus depreciation, the maximum write off is $18,000.
Depreciation is more complicated than your average deduction, so we recommend reading our article What is Depreciation? And How Do You Calculate It?, and asking your accountant which assets you can deduct in your business.
Education costs are fully deductible when they add value to your business and increase your expertise. In order to decide if your class or workshop qualifies, the IRS will look at whether the expense maintains or improves skills that are required in your current business.
The following list contains examples of valid business education expenses:
- Classes to improve skills in your field
- Seminars and webinars
- Subscriptions to trade or professional publications
- Books tailored to your industry
- Workshops to increase your expertise and skills
- Transportation expenses to and from classes
Keep in mind that any education costs that would qualify you for a new career, or costs related to education outside of the realm of your business, don’t qualify as business tax deductions.
Home office expenses
If you use a home office for your business, you may be able to deduct a portion of your housing expenses against business income. There are two ways to deduct home office expenses.
- Simplified method. You can deduct $5 per square foot of your home that is used for business, up to a maximum of 300 square feet.
- Standard method. Track all actual expenses of maintaining your home, such as mortgage interest or rent, utilities, real estate taxes, housekeeping and landscaping service, homeowners association fees, and repairs. Multiply these expenses by the percentage of your home devoted to business use.
To qualify for the home office deduction, you need to measure up in two areas:
- Regular and exclusive use. To pass the regularly and exclusively requirement, you must regularly use your home office exclusively for conducting business activities. A desk that doubles as your kitchen table won’t work. You don’t need to dedicate an entire room to your business, but your work area should have clearly identifiable boundaries. You may want to keep photos of your home office workspace with your tax documentation as evidence in case the IRS selects your return for audit.
- Principal place of business. Your home office must be your principal place of business. This means you spend the most time and conduct important business activities here.
If you take out a loan or use a credit card to cover business expenses, you can deduct the interest paid to your lender or credit card company as long as you meet the following requirements:
- You are legally liable for the debt. For example, if your parents take a second mortgage on their home to help you start a business, you are not legally liable for the debt. In that case, interest on the loan is not deductible, even if you make all of the payments on the mortgage.
- Both you and the lender intend for the debt to be repaid. A loan that doesn’t have to be repaid is a gift.
- You and the lender have a true debtor/creditor relationship. The IRS tends to scrutinize loans between related parties, such as family members. If you use the accrual method of accounting, you cannot deduct interest owed to a related person until the payment is made.
Keep in mind that if a loan is part business and part personal, you need to divide the interest between the business and personal parts of the loan.
Legal and professional fees
Legal and professional fees that are necessary and directly related to running your business are deductible. These include fees charged by lawyers, accountants, bookkeepers, tax preparers, and online bookkeeping services such as Bench.
If the fees include payments for work of a personal nature (for example, making a will), you can only deduct the part of the fee that’s related to the business.
The Tax Cuts and Jobs Act of 2017 eliminated the deduction for moving expenses for all nonmilitary individuals, but businesses can still deduct the cost of moving business equipment, supplies and inventory from one business location to another.
Be sure to keep good records to substantiate all costs associated with your business move.
If you rent a business location or equipment for your business, you can deduct the rental payments as a business expense.
Keep in mind, rent paid on your home should not be deducted as a business expense, even if you have a home office. That rent can be deducted as a part of home office expenses.
Salaries and benefits
Salaries, benefits and even vacation time paid to employees are generally tax-deductible, as long as they meet a few criteria:
- The “employee” is not the sole proprietor, a partner, or an LLC member
- The salary is reasonable, ordinary, and necessary
- The services were actually provided
Taxes and licenses
You can deduct various taxes and licenses related to your business. This may include:
- State income taxes
- Payroll taxes
- Personal property taxes
- Real estate taxes paid on business property
- Sales tax
- Excise taxes
- Fuel taxes
- Business licenses
Telephone and internet expenses
If telephone and internet services are integral to your business, they can be deductible business expenses.
Keep in mind, if you use a landline at home, you cannot deduct the cost of your first line, even if you use it solely for work. However, if you have a second landline devoted to the business, the cost of that line is deductible.
If you use your cell phone and internet connection for both personal and business reasons, you can only deduct the percentage allocable to business use. Keep an itemized bill or other detailed records to prove the amount of business use in case your return is audited.
For a trip to qualify as business travel, it has to be ordinary, necessary, and away from your tax home. Your tax home is the entire city or area in which you conduct business, regardless of where you live. You need to travel away from your tax home for longer than a normal day’s work, requiring you to sleep or rest en route.
Deductible, IRS approved business travel expenses include:
- Travel to and from your destination by plane, train, bus, or car
- Using your car while at a business location
- Parking and toll fees
- The cost of taxis and other methods of transportation used on a business trip
- Meals and lodging
- Dry cleaning while on a business trip
- Business calls
- Shipping of baggage and sample or display materials to your destination
- Other similar ordinary and necessary expenses related to your business travel
Remember to keep records that include the amount of each expense, as well as dates of return/departure, details of the trip (whom you met with), a mileage log if you drove your own vehicle, and the business reason for the trip.
Further reading: Are Travel Expenses Tax Deductible?
Personal tax deductions for business owners
The above-mentioned deductions can be claimed on Schedule C or Form 1065, but there are a few other tax breaks small business owners commonly claim on their individual returns.
Sole proprietorships, LLCs, and partnerships cannot deduct charitable contributions as a business expense, but the business owner may be able to claim the deduction on their personal tax return.
To qualify, the donation must be made to a qualified organization.
Starting with 2020 returns, taxpayers can claim up to $300 of cash contributions as an “above-the-line” deduction on Form 1040. To deduct more than that, the business owner has to itemize deductions on Schedule A attached to Form 1040.
Child and dependent care expenses
If you pay someone to care for a child or another dependent while you work, you may be able to claim the Child and Dependent Care Credit. To qualify, the person receiving the card must be a child (under age 13) or a spouse or other dependent who is physically or mentally incapable of self-care.
The credit is worth between 20% and 35% of your allowable expenses, depending on your income. Allowable expenses are limited to $3,000 for the care of one dependent and $6,000 if you paid for the care of two or more dependents. IRS Publication 503 provides more information on the Child and Dependent Care Credit. You’ll need to attach Form 2441 to your Form 1040 to claim the credit.
You can deduct contributions to employee retirement accounts as a business expense, but business owners who contribute only to their own retirement funds claim the deduction on Schedule 1 attached to their Form 1040.
The amount you can deduct depends on the type of plan you have. Check out the IRS’s tips for calculating your own retirement plan contribution and deduction for more information.
Health care expenses
In addition to insurance premiums, you can deduct other out-of-pocket medical costs, such as office co-pays and the cost of prescriptions. These costs are included on itemized deductions on Schedule A.
Self-employed business owners can also deduct health insurance premiums for themselves, their spouse, and dependents on Schedule 1 attached to their Form 1040. However, if you are eligible to participate in a plan through your spouse’s employer, then you can’t deduct those premiums.
The bottom line
Tax deductions are an essential way to minimize the amount of tax you have to pay, and good record keeping will ensure you get to keep those deductions if the IRS ever comes knocking.
Have your team of dedicated bookkeepers at Bench track all of the expenses related to running your business to ensure you’re taking advantage of every legitimate deduction. Send Bench’s books to your accountant at year end, or let us take the tax filing off your plate for good! Learn more.