What expenses are deductible?

As you make spending decisions in your business, you need a thorough knowledge of how they will affect your taxes.  Here is what I hope will be the first of a series of posts about business expenses and tax deductions. 

The IRS defines four categories of expenses.

1. Business Expenses

These are considered:

• ordinary (common and accepted in your industry) and
• necessary (helpful and appropriate for your business).  

An example of a business expense would be the cost of an advertisement.  Business expenses are usually deductible when used (therefore our favorite kind of expense). 

2. Cost of Goods Sold

This is the cost of products that you sell, and can include the cost of raw materials, labor necessary to produce the products, and storage.  These are deductible when you sell the item (therefore our second-favorite kind of expense).

3. Capital Expenses

These are the cost of buying assets that you use to make money in your business.  They can include things like computers, furniture, software and even vehicles.  Most capital expenses are deducted over the period of time that you use the asset.  (Because this forces us to wait for our tax deductions, we are not crazy about capital expenses.)  However, many rules permit immediate deduction of capital expenses (just like business expenses, our favorite kind of expense).

4. Personal Expenses

These are not deductible (and we don’t like them).  However, personal expenses can be shared with business expenses.  For example, keeping a business office in your apartment might permit you to deduct part of your rent as a business expense.  Warning: people have gone to prison for treating personal expenses as business expenses.

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