One of the main goals that we all are striving for as tax season approaches is to maximize our deductions, and one crucial element are deductions we can take for business expenses. Though we wish we could deduct everything that relates to a business, there are obviously rules set in place to regulate which expenses can and cannot be deducted. This guidance can be found in Section 162(a) of the Internal Revenue Code, and there are certain elements which must be present in order to claim a deduction. To qualify as a deduction, the code states that, “there shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business.”
A breakdown of the elements of this guidance is as follows:
Expenses Paid or Incurred During the Taxable Year – The deduction must relate to an actual outflow of cash or an expense that was related to an action that took place in the current year. This implies however that the expense does not necessarily have to be paid for in the current year, just that it be incurred. For example, if you charged business expenses on the business credit card on December 31, 2010 and you don’t pay the credit card bill until sometime in 2011, you are still entitled to deduct the expenses.
Ordinary and Necessary – This implies that the deductions must be for expenses that are part of the normal and expected course of business. If you own a pizza restaurant in Irvine, it would not be ordinary or necessary to purchase a $10 million mansion in the Hamptons, so that expense would not qualify as a deduction.
In Carrying On any Trade or Business – The expenses must be related to a business that is past the start-up phase, because deductions for expenses related to starting a company may need to be spread out over 15 years. Also, the expense must be solely for the purpose of running the business, and not for a personal hobby or for pleasure. Going along with the previously mentioned credit card example, if the expense was incurred on a personal trip to Las Vegas on New Year’s, the expense would not be related to the trade or business and would not be allowed to be deducted.
The moral of the story is that there may be business-related expenses that you have been incurring that can qualify under these criteria, so be sure to ask us and our Irvine CPA firm can straighten things out!