Starting a business is not for the faint of heart. Business owners often need to pour thousands upon thousands of dollars to get their business venture off the ground. The costs can be never-ending. (Rent, website design, marketing, hiring and paying employees, legal fees, and insurance fees are just a few of the costs that can sink business owners into debt.)
Federal and state governments, in order to encourage, small business economic growth allow small business owners to deduct some of their business costs when they submit their taxes. Smart business owners strategically maximize their small business tax deductions.
Strategic Tax Deductions
Business owners can evaluate whether or not they can deduct the expense of their business expenses by determining if they are regularly used and exclusively used for the business. Utilities, rent, software—these are regular tax deductions that have minimal chance of being audited, but business can deduct more unusual expenses. This Internal Revenue Service (IRS) flow chart is a good visual representation to help you determine if you should try to deduct the item from your taxes.
Need some inspiration for potential off the beaten track tax deduction? The infographic, The 9 Wildest Tax Deduction Claims Ever Attempted, highlights a few creative and successful business tax deductions.
Weird Deduction One: Cat Food
In South Carolina a junkyard owner filed the expense of the cat food he used to attract stray cats to his business.
Due to the fact, that the stray cats were not pets and the cats served a valuable purpose for the business, the IRS eventually conceded that the deduction was a business expense.
Weird Deduction Two: Carrier Pigeons
One entrepreneur decided mail, internet, and telephone calls weren’t an effective enough modes of communication. They decided instead to utilize carrier pigeons to deliver their business correspondence. The entrepreneur successfully claimed the cost of the birds themselves, the bird food, and the birds’ home as a business expense.
Due to the fact that the carrier pigeons serve the same purpose as a telephone bill, the expenses are legal to deduct.
Weird Deduction Three: Costume Costs
The Swedish pop group ABBA deducted the costs of the costumes they wore when they performed in concerts. Normally, business attire is not deductible because they can also be worn during non-business hours. ABBA’s management team brilliantly solved this problem by suggesting they purchase outfits too outrageous for anyone other than Lady Gaga to wear in public.
Due to the fact that the costumes could only be worn while they worked, deducting their costumes as a business expense was accepted by the IRS.
What Happens If a Business Expense Is Rejected?
While non-traditional business expenses can save much needed money, they can also increase the chances of an IRS agent flagging the expense as an unreasonable tax deduction. Due to that chance, all business owners who decide to try to deduct non-traditional business deductions should be at least a little knowledgeable in IRS audit procedures.
According a tax law guide created by the tax law experts at Villanova University your tax forms will be reviewed and processed by an IRS tax agent. During the review, the agent will evaluate if to their knowledge all of the deductions meet the state or federal tax code. If they determine they might not, they flag them for a tax audit.
You will receive a letter or phone call from the IRS explaining that you are being audited. They will request you send them specific documents. (This is why it is very important that you save all the receipts that outline the expenses you are trying to deduct.)
If the auditor determines the business deduction is unreasonable and does not align with the tax code, you will receive a bill and a notice that you owe money to the IRS for the deduction.
Warning: If during the audit, you cannot prove that the expense should be deductible the IRS will charge a 20% penalty. Interest will also start to accrue on that penalty and the amount due to the IRS if you cannot pay it right away. The IRS will work with tax payers to set up a payment plan if you do not currently have the money to pay the unexpected amount.
After the Audit
A failed audit does not mean that the small business expense is not deductible. If you believe the expense should be deductible, you can file a petition with the United States tax court. The IRS notice you receive will tell you when the petition to the tax court is due by. According to the US tax code, missing that date makes you ineligible to petition the audit’s findings.
From there, the preceding are much like any other court case. Depending on the case, the IRS might present a settlement offer before the case goes to court. If a settlement is not offered or accepted, the case will be seen by a tax court judge. It will be up to you or your lawyer to prove that the IRS is wrong and that item should be deductible, so in the time before the trial you will need to pull together all of your paperwork, the evidence, and potential witnesses.
After the verdict has been made, the court will send you a bill of how much you owe. Depending on how well the case goes, none, all, or some of the deductions will be deemed eligible business deductions.
For example, a Wisconsin body builder successfully argued that his body oil and health supplements should be tax deductible, but he still had to pay the amount he owed for the buffalo meat he tried to deduct.
The federal and state government allow small businesses to deduct some of their business expenses from their tax returns. In the past, small businesses have successfully deducted non-traditional expenses like carrier pigeons, cat food, and costumes. If the IRS does not believe a tax deduction aligns with the tax code, it can be an added expense for a business and potentially lead to a long, drawn out legal proceeding. Due to that fact, small business owners might want to consult with a tax lawyer or tax accountant to determine the viability of unusual deductions.
- Home Business Tax Deductions: What to Watch Out For
- What Qualifies for a Home Office Tax Deduction?
- Tax Deductions: Commonly Overlooked Business Expenses
- 5 Commonly Missed Tax Deductions for Small Business Owners
- 8 Tax Tips for Small Businesses and Self-Employed Individuals