Starting a new business is an exciting endeavor, but it also comes with complex tax considerations that can significantly impact your bottom line. Many new entrepreneurs overlook key tax rules and, as a result, miss out on valuable deductions. Understanding when your business officially “starts” and how to properly document expenses is crucial to ensuring you don’t lose out on potential tax savings.
A Cautionary Tale: When Does a Business Officially Start?
A recent Tax Court case involving Kwaku Eason and Ashley L. Leisner illustrates the importance of correctly determining when a business has officially commenced operations. Eason and Leisner formed an S corporation, Ashley & Makai Homes, intending to provide real estate guidance to property owners and investors. They incurred significant expenses—$41,934 for real estate education and other business-related costs—and claimed these as deductions on their tax return.
However, the IRS disallowed the deductions, and the Tax Court agreed, ruling that the business had not yet started by the end of the tax year in question. Despite spending money on training, business cards, and stationery, the court found no evidence that the business had begun operations. Specifically, the corporation had reported no income and had not engaged in activities such as marketing, client interactions, or service offerings.
This case highlights a critical lesson: spending money does not mean your business has officially started. To claim deductions, you must demonstrate that your business is operational and in a position to generate revenue.
Key Considerations for Claiming Business Deductions
- Establishing Your Business Start Date
Your business is considered “started” when it begins the activities for which it was organized and is in a position to generate revenue. Indicators include:
⦁ Selling your product or service
⦁ Actively marketing or advertising your business
⦁ Launching a public-facing website
⦁ Entering into contracts with customers or clients - Documenting Business Activity
Even if you haven’t yet made a sale, you may still qualify for deductions if you can show substantial business activity. Keep detailed records of:
⦁ Client communications and interactions
⦁ Marketing campaigns and efforts
⦁ Networking and business development activities
⦁ Business-related expenses with proper receipts
- Properly Handling Start-Up Costs
Many expenses incurred before officially opening your doors qualify as start-up costs under IRS Section 195. These include:
⦁ Training and education related to your business
⦁ Professional fees for legal and accounting services
⦁ Initial advertising and marketing expenses
Under the tax code, you can deduct up to $5,000 in start-up costs in your first year of operation, with any remaining amount amortized over 180 months. This can provide a significant tax benefit if structured correctly.
- Seek Professional Guidance
Beyond tax deductions, starting a business involves critical decisions regarding entity structure, compliance, and reporting requirements. For example, new businesses must consider:
⦁ Entity Structure: Should you form an LLC, S corporation, or C corporation? Each has different tax and legal implications.
⦁ Tax Planning: Ensuring your business is set up for maximum tax efficiency from day one.
Starting a business requires more than ambition—it demands a strategic approach to tax planning and compliance. The Eason and Leisner case serves as a reminder that without proper documentation and evidence of business activity, the IRS may deny your deductions, costing you thousands of dollars.
To avoid missing out on valuable tax benefits:
⦁ Ensure your business is truly operational before claiming deductions
⦁ Keep detailed records of all activities, expenses, and business efforts
⦁ Understand how to categorize start-up costs to maximize deductions
⦁ Consult with a professional to set up your business structure correctly and comply with all reporting requirements
If you’re launching a business this year, don’t leave money on the table. Contact Saunders Tax & Accounting to ensure you’re taking advantage of all available deductions while staying compliant with IRS regulations. We can be reached at www.SaundersTax.com or call us at 301-714-2071. Open Monday – Friday 9 am to 9 pm and Saturdays 9 am to 3 pm except March 22, open 9 am to Noon. Awarded the Hagerstown Chamber of Commerce “2023 Small Business of the Year” and Hagerstown Hotlist 2024, we have been providing a Less Taxing Life and More Prosperous Solutions since 1984!
