How Tampa Bay Startups Can Deduct Their Startup Costs
There’s a lot of excitement in the Tampa Bay area these days but more importantly, about the number of Tampa Bay startup businesses. In reality, there might never have been a better time to open a new business in Tampa and, with the right documentation, those startup costs might prove to be valuable deductions.
First of all, any new business venture can be a startup, although for many people, the idea of a startup is one with a huge price tag. Not true! While the smallest of the small businesses in the world may not cost much to start, they still have all the same categories of startup costs. Technically, any new business is considered in startup mode at any time before the doors are actually opened and this is true whether your company is selling hamburgers or software. So, until you meet customer number one, your expenses are all, in theory, “startup costs.” After you’ve opened the doors or are actively selling the business’ product or service, the costs associated are considered to be operating expenses. As usual, of course, the IRS has strict guidelines on what the various costs – both operating and startup – are, but it’s important to keep track of these costs, because they can be of use far beyond the first year.
Qualifying Expenses within Startup Costs
There are three primary categories of startup costs: Investigation, Preparation, and Organization. With the number of new business ventures opening in Tampa Bay, it is critical to understand how each category is accounted for and how those costs can be amortized after the company is running.
First of all comes the Investigation stage. Here is when the principals are actively investigating either the purchase of an existing concept (in the case of a franchise, for example) or handling the due diligence necessary for opening a new concept. Costs generally associated with this stage of startup include marketing surveys, product feasibility studies, real estate market research, any other costs associated with creating or investigating a new or existing business. While much of what is accrued in costs here may not be tangible, it is still imperative that the principals document all the costs in this stage, even if the research changes the intended structure of the business.
As the startup moves to the Preparation stage of startup, a functional business plan for the new company has been created. In Preparation, the physical location is actually being built or the digital assets are being created. It’s worth noting that equipment purchased in the Preparation stage is actually not documented as a startup cost since it has a tangible value and can be depreciated. The expenses most often documented at this stage include hiring and training, the costs of sourcing suppliers and distributors, and the fees associated with consultants and professionals – including legal and financial experts. This can create some challenging bookkeeping, as some legal and professional fees are considered Organizational costs.
Interestingly enough, Organizational costs, which stem from the establishment of the business as a startup, are legal fees, state organization fees, salaries for temporary directors, and organizational meetings. Expenses to set up a partnership agreement can also include legal, accounting and filing fees related to developing the partnership agreement. Since these costs are directly related to the business’ status as a startup, they must have been incurred prior to the end of the first tax year the company is open for business. They must also be chargeable to a capital account and amortized over the life of the corporation/partnership. Read more about requirements and exclusions on IRS.gov.
What and How Much Can You Deduct?
Here’s where startup costs, whether you’re in Tampa Bay or not, become valuable. As a basic rule, for small companies that incur less than $50,000 in startup expenses, you may be able to deduct up to 10% for the first year. The important number to remember is $50,000 – any amount over that and you begin to lose a portion of the deduction and, once you exceed $55,000 in startup costs, the deduction is phased out completely. You can learn more about how the IRS views these costs right here.
Managing Those Deductions and Amortizing the Costs
There are many times that taking the full deduction for startup costs in the first year of operations doesn’t make a lot of financial sense. Since many businesses suffer losses for the first several years, often, we recommend amortizing those deductions for up to 15 years after the business opens. This is a great way to balance out profitability. To do so, it’s necessary that you file IRS Form 4562 with your first year’s tax return. You can amortize qualified startup and organizational costs for up to 15 years, and they don’t have to be on the same amortization schedule - the key to this is to always remember that once you choose the periods for each deduction, you will not be allowed to change them. As a new business, it is critical that you discuss this not only with you CPA, but also with your bookkeeper – they are uniquely situated to understand you monthly cash flows and can suggest the most beneficial way to document the amortization process.
As a new startup in the Tampa Bay area, there are a lot of reasons to be optimistic and as with any business venture, properly documenting how and where your startup costs were used can be a valuable tax tool.
By: Chris Groote
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