Start-Up Expenses

If you've recently started a business, or if you're in the process of starting one now, you should be aware that the way you treat some of your initial expenses for tax purposes can make a big difference in your tax bill.

Generally, expenses incurred before a business begins don't generate any deductions or other current tax benefits.

However, taxpayers, whether they are individuals, corporations or partnerships, are permitted to elect to write off $5,000 ($10,000 for a tax year that began in 2010) of “start-up expenses” in the year business begins, and the rest can be deducted over a period of 180 months that begins with the month business starts. The $5,000 ($10,000 for a tax year beginning in 2010) figure is reduced by the excess of total start-up costs over $50,000 ($60,000 for a tax year beginning in 2010). (Tax years beginning in 2010 include calendar tax years, ending on Dec. 31, 2010, and fiscal tax years, for example, a fiscal 2010 tax year that started on Dec. 1, 2010 and ended on Nov. 30, 2011. In that case, the election can be made by the due date of the tax return in 2012 (including extensions)).

You will be deemed to have made the election unless you opt out.

Start-up expenses include, with a few exceptions, all expenses incurred to investigate the creation or acquisition of a business, to actually create the business, or to engage in a for-profit activity in anticipation of that activity becoming an active business. To be eligible for the election, an expense also must be one that would be deductible if it were incurred after the business actually began. An example of a start-up expense is the cost of analyzing the potential market for a new product.

A similar $5,000/180-month/over-$50,000-phase-out election is available, without special rules for 2010, to corporations and partnerships for their “organization expenses.” To qualify as an organization expense, the expense must be incident to the creation of the corporation or partnership, be an expense that, in the absence of the election, would be capitalized, and be an expense that, if it had been incurred in connection with a corporation or partnership that had a limited life, would have been eligible to have been written off over that limited life. Examples of organization expenses are legal and accounting fees for services related to organizing the new entity (such as fees for drafting the corporate charter or partnership agreement) and filing fees (such as fees paid to the state of incorporation).

As you can see, it's important to keep a record of these start-up and organization expenses, and to make the appropriate decision regarding the write-off election. As mentioned above, if you opt out of the election, there is no current tax benefit derived from the eligible expenses covered by the election. Also, you should be aware that an election either to deduct or to amortize start-up expenditures, once made, is irrevocable.