Graham Hunter is a Tax Nerd at GoodApril, your source for automating tax planning.
2 min. read
Updated October 25, 2023
So you’re starting a business…Great! But most likely you don’t start a business before thinking about it and doing some research. Did you know that you can get deductions for “startup” and “organizational” expenses related to thinking about starting a business? You do have to go on to actually start the business and earn money, but once you get your first paying customer, you’re in business.
A startup expense is an expense related to investigating the creation of a business. Something like legal fees for starting your business may seem like a startup expense but is actually an organizational expense. Here are a few examples of true startup expenses:
|Costs of any market analysisAdvertisements for the opening of the businessEmployee salaries for trainingTravel costs for finding suppliers, customers etc.The cost of consultants|
Organizational expenses are the expenses paid to organize a corporation or the direct costs of creating the corporation. Here are a few examples of organizational expenses:
|The cost of legal servicesThe cost of organizational meetingsState incorporation fees|
You can deduct expenses related to the start of an active business. This means that if you fail to start the business, you cannot deduct the expense (unless you are a corporation, in which case you can have a loss). You get one deduction for startup expenses and another one for organizational expenses. Also, you can only claim these initial deductions in the year that you start your business.
You can always deduct all of the startup and organizational expenses for your business. In the first tax year, you can expense an extra $5,000 for each type. However, if you had over $50,000 in either type of expenses, you must reduce this bonus amount, dollar for dollar, by anything over $50,000. The rest of the deduction is amortized over 180 months. Here is an example to illustrate:
Morgan has been thinking about starting a software company. In order to see if customers would be interested, she spent $20,000 traveling across the country conducting customer interviews. She paid a consultant $25,000 to do a market analysis and spent $7,000 on payments for customer interviews. So, Morgan’s total startup costs are…
$20,000 + $25,000 + $7,000 = $52,000
If Morgan would have only spent $50,000, she would get the full $5,000 in the first year. Instead she gets…
The max. deduction ($5,000) – the amount over $50k ($2,000) = Morgan’s deduction ($3,000)
The remaining $49,000 is deductible over 180 months, which is $272/month or $3,266/year
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This same calculation would be done to calculate the deduction for organizational expenses.
It’s alright if this is a bit confusing, you don’t need to calculate everything now. Just check out the items that are considered start-up expenses and make sure to keep track of them for when you are doing your taxes.