IRS Publication 535

Introduction

IRS Publication 535, entitled “Business Expenses,” is a comprehensive document provided by the Internal Revenue Service that guides business owners, self-employed individuals, and other taxpayers through the complex landscape of business-related expenditures that can be deducted from gross income to reduce the taxable income of a business. The publication is a pivotal resource, covering various types of expenses that can be deductible, the limitations on these deductions, and the necessary record-keeping practices required to substantiate claims.

Types of Deductible Business Expenses

Business expenses must be both ordinary and necessary to qualify for deductions. An “ordinary” expense is one that is common and accepted in the taxpayer’s trade or business. A “necessary” expense is one that is helpful and appropriate for the business.

Common Business Expenses

  1. Advertising: Costs related to advertising and marketing are generally deductible. This includes expenditures on print ads, mailings, online advertising, radio spots, and more.
  2. Car and Truck Expenses: Costs for vehicles used in business, such as fuel, repairs, and leasing, can often be deducted. The IRS offers a standard mileage rate method and an actual expense method for this calculation.
  3. Legal and Professional Fees: Fees paid to accountants, lawyers, consultants, and other professionals for advice and services related to the business are deductible.
  4. Office Expenses: Office supplies, postage, and utilities directly related to the functioning of an office are deductible.
  5. Rent: Amounts paid for renting business premises or equipment are deductible, which applies to both short-term and long-term leases.
  6. Travel: Business travel expenses including airfare, lodging, meals, and local transportation can be deducted, subject to certain restrictions and substantiation requirements.
  7. Employee Compensation: Wages, salaries, bonuses, and other forms of compensation to employees are usually deductible.
  8. Insurance: Premiums paid for business insurance policies, such as liability or property insurance, are deductible.
  9. Depreciation: The cost of acquiring certain business assets can be written off over the asset’s useful life through depreciation.
  10. Interest: Interest on loans taken out for business purposes is typically deductible.

Limitations on Deductions

Certain expenses are subject to limitations or additional rules:

  1. Meals and Entertainment: Generally, only 50% of business meal expenses are deductible, and entertainment expenses are no longer deductible as of recent tax law changes.
  2. Home Office Deduction: To claim a home office deduction, the part of the home must be used exclusively and regularly for business.
  3. Start-Up Costs: Start-up expenses must be amortized over a 15-year period, but up to $5,000 of these expenses can be deducted in the first year.
  4. Bad Debts: Only debts related to the business that have become worthless within the tax year can be deducted.
  5. Charitable Contributions: These are generally not deductible as business expenses but can be deducted as personal itemized deductions within certain limits.

Non-Deductible Expenses

Not all expenses qualify for deductions. Non-deductible expenses often include:

  1. Personal, Living, or Family Expenses: Expenses that are personal in nature are not deductible.
  2. Political Contributions: Money donated to political candidates or parties is not deductible.
  3. Illegal Activities: Expenses related to illegal activities or those that violate public policy cannot be deducted.

Documentation and Record-Keeping

Taxpayers must maintain accurate and detailed records to substantiate their business expenses. Good record-keeping practices include:

  1. Receipts and Invoices: Keep all receipts and invoices for purchases and expenses.
  2. Log Books and Diaries: Maintain log books for vehicle mileage, travel details, and business meetings.
  3. Accounting Records: Use accounting software or ledgers to track income and expenditures systematically.
  4. Documents for Larger Purchases: Keep contracts, loan agreements, and purchase documents for significant business investments.

Special Considerations and Case Studies

Specific Industries

Different industries can have unique deductible expenses specific to their field, such as:

  1. Manufacturing: Costs related to raw materials, machinery, and production overhead.
  2. Real Estate: Deductible expenses can include property management fees, maintenance, and repairs.
  3. Medical Practice: Costs for medical supplies, continuing education, and malpractice insurance.
  4. Retail: Inventory costs, shrinkage, and point of sale systems.

Case Study Examples

  1. Freelance Graphic Designer: A graphic designer working from home might deduct costs related to their home office setup, design software subscriptions, client meeting expenses, and travel costs for attending design conferences.
  2. Small Restaurant Owner: The owner could deduct expenses for kitchen equipment, food inventory, employee wages, restaurant advertising, and lease payments for the space.

Recent Tax Law Changes

Keeping abreast of changing tax laws is crucial for correctly applying deductions. For example, the Tax Cuts and Jobs Act (TCJA) brought several changes affecting business deductions, including the standard mileage rate, qualified business income deductions, and meal and entertainment expenses.

Conclusion

Understanding and utilizing the guidelines set forth in IRS Publication 535 enables business owners and self-employed individuals to optimize their tax situations legally and effectively. Proper documentation and adherence to IRS rules ensure that deductions are substantiated, reducing the risk of costly tax audits and penalties. By carefully applying the guidelines for deductible business expenses, taxpayers can ensure compliance while maximizing their legitimate tax savings.