written by: Patricia Tokar, CPA•edited by: DaniellaNicole•updated: 4/13/2012
One of the advantages of having your own business is the variety of tax-deductible items available for the self-employed. Taking full advantage of all the available tax deductions can greatly reduce the taxes owing on self-employment income.
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Taxes Can Be a Big Expense for the Self-Employed
The combination of income taxes and self-employment taxes can easily be the biggest single expense for the self-employed. Taking the time to keep careful records of your expenses and to educate yourself on available deductible items for self-employment taxes can have a big impact on the sole proprietor’s profitability.
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Do You Know What Tax-Deductible Items Are Available for the Self-Employed?
There are a variety of tax deductions available for the self-employed to deduct on their tax schedules. For most small non-farm businesses, the deductions are taken on a Schedule C (Profit or Loss From Business), or a Schedule C-EZ (for those with deductions of less than $5000).
In general, anything that you use or purchase specifically for your business should be deductible. Some items may be used for both personal and business purposes. In this case, you may need to keep a journal or have another method to show what percentage of the expense was used for business. This is most common with computer expenses, cell phones and vehicles. It also applies to use of your home for business purposes.
Check through the items listed below to be sure that you are not missing any of these deductions on your self-employment tax returns.
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Business Use of Your Home
If you are running your business from your home, a percentage of the costs of owning or renting your home may be deductible. To determine how much is deductible, you will need to calculate what percentage of your home is being used exclusively for your business. The space does not have to be a full room, but it absolutely must be exclusive. You cannot use the area at any time for personal use, even if the use is just a day or two of the year.
Calculate the percentage to use for deducting business use of your home expenses by dividing the exclusive and regular business use area by the total living area of your home. For example, if your home office is 100 square feet and your home is a total of 2000 square feet, then your percentage is 5%. (Note that daycare businesses will use a formula based on the number of hours they make the home available to the children.)
Use Form 8829 to calculate and report your deductions for business use of your home.
Your deductions may include:
Depreciation of your home, based on your actual purchase and remodeling costs
Rent, if you are renting your home
Mortgage interest, real property taxes, PMI insurance
Utilities, such as natural gas, electric, propane
Trash service, pest control service
Homeowners or renters insurance
Regular maintenance of the home
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Business Use of Your Personal Vehicles
Another potentially large deductible item for the self-employed is the business use of their personal passenger vehicles. There are basically two ways to calculate this. Calculate the deduction both ways the first year to see which one will give you the biggest deduction. For either method, you must keep a log of your business mileage to substantiate the deductions.
Standard Mileage Deduction
The standard business mileage deduction for 2011 is $0.51 /mile. If your business is not home based, then you may not take a deduction for the mileage from your home to your principal place of business. Any other business related mileage should be deductible. This includes mileage to pick up supplies, to do your business banking, to make deliveries, to visit customers or potential customers, to the post office, to meet with the accountant or attorney, and to stores or business suppliers.
If you take the standard mileage deduction, you may still be able to deduct the business portion of the license plate taxes and the interest on any loans on the vehicle.
Deducting Actual Vehicle Expenses
Include these expenses if you choose to take actual expenses instead of mileage
Depreciation of the purchase cost of the vehicle
Auto license plate fees and taxes
Oil changes and other regular maintenance
Gasoline or other fuel
Repairs - these may need to be depreciated. Check with your accountant.
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Other Potential Tax Deductible Items
Don't overlook these deductions:
Interest on a business loan
Parking and tolls for business travel
Equipment purchases - these usually are depreciated or expensed with a Sec 179 deduction
Accounting and legal fees for the business
Health insurance premiums - special rules apply. (Deduct on the front of Form 1040.)
Business liability insurance
Rent of business equipment
Rent or lease of storage facilities
Rent or lease of business space
Maintenance and repairs of equipment or business space
Business property taxes
Business travel - hotel, parking, air and bus fares, taxis
Web site hosting, design, and domain names
Telephone - the first line coming into a home is usually not deductible, even if it is used for business. However, if you add on services for the business, such as call waiting or distinctive ring tones, these may be deductible.
Long distance phone charges and phone cards for business calls
Books, newspapers, magazines for business purposes
Association and membership fees
Meals and entertainment (these are usually only 50% deductible)
Utilities - Electric, heat
Cost of inventory items that sold (do not include unsold inventory)
Donated inventory - check with your accountant for special rules
Postage and shipping
Education and seminars - must be related to your current business, not for a new career
Software subscriptions, such as security software
Merchant fees for your credit card sales
Bank service charges
Depreciation on the cost of furniture and equipment that you owned before you started the business, such as desks, computers, file cabinets. - check with your accountant
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Deduction of Self-Employed Health Insurance
If you have obtained your own health insurance policy and are paying for your own or your family's health insurance, then you may be able to take a deduction for self-employed health insurance on the front of the Form 1040, Line 29. Basically this is a deduction of the full cost of your health insurance premiums. You cannot take this deduction for any month that you were eligible to be covered by an employers' health insurance plan, either your own, or that of your wife or children.
An important consideration for 2010 tax returns only is that this self-employed health insurance deduction will also be used as a deduction in calculating your self-employement tax (Schedule SE). If you forgot this deduction on your 2010 return, you should review it and consider filing an amended return (Form 1040X)
Watch to see if this special deduction from Schedule SE gets renewed for 2011 or future returns, but as of May 2011 it has not been renewed and is considered a 2010 deduction only.
Helping you find tax-deductible items is a main function of your CPA or tax accountant. Examine your checkbook register and petty cash receipts for any business related expenditures. When you go to your tax preparation appointment, review any items that you are not sure are deductible and ask your tax accountant what items aregenerally seen on a tax return for your particular business. Even if you prepare your own tax return, it is wise to have a periodic consultation with your CPA or tax accountant to be sure that you have taken advantage of every tax-deductible item that you are entitled to.
This article is not intended to be specific tax advice. It is intended as a general guideline only. Any specific advice should be sought from your tax professional.
CIRCULAR 230 DISCLOSURE: Pursuant to Treasury Department guidelines, any federal tax information contained in this article, or any attachment, does not constitute a formal tax opinion. Accordingly, any federal tax advice contained in this communication, or any attachment, is not intended or written to be used, and cannot be used, by you or any other recipient for the purpose of avoiding penalties