What counts as a business expense?

The test: ordinary and necessary

The IRS says an ordinary expense is one that is common and accepted in your industry, and a necessary expense is one that is helpful and appropriate for your trade or business.

A graphic designer’s design software, a contractor’s saw blades and an online seller’s shipping boxes all pass easily. A personal vacation doesn’t, even if you check email while you’re away.

Common categories of business expenses

IRS Publication 334 covers the main kinds of expenses small businesses deduct, including:

• Car and truck expenses, using the standard mileage rate or actual costs
• Supplies and materials
• Advertising and marketing
• Insurance for your business
• Rent for office or work space
• Legal and professional fees, such as an accountant
• Travel away from home for business, and business meals (usually 50%)
• Business use of your home, if you qualify
• Depreciation of equipment and other assets you use for more than a year
• Interest on business loans and taxes related to your business

Mixed-use items: deduct only the business part

Many things are used both for work and personally, such as your phone, internet and car. For these, you can deduct only the business share. If you use your phone half the time for work, about half of the bill is a business expense. Keep a note of how you worked out the percentage.

For a car, you choose between the standard mileage rate, which multiplies your business miles by the IRS rate, and actual expenses, which are the business share of gas, repairs, insurance and depreciation. Either way, you need a record of your business miles.

Your home office qualifies only if you use the space regularly and exclusively for business, and it’s your principal place of business. The IRS simplified method allows $5 per square foot, up to 300 square feet.

Meals and entertainment

Business meals are generally only 50% deductible, and you need a record of the amount, date, place and business purpose. Entertainment, such as tickets to a game or a concert, is generally not deductible at all, even if you take a client.

What doesn’t count

Some costs feel work-related but aren’t deductible:

• Personal, living and family expenses
• Commuting between your home and your regular place of work
• Everyday clothing, even if you only wear it to work
• Entertainment, with limited exceptions
• Improvements to property, which are depreciated over time rather than deducted all at once

Keep the receipt either way

A deduction is only as good as the record behind it. Keep receipts that show what you bought, when, from whom and for how much, and note the business purpose where it isn’t obvious. If you’re not sure whether something counts, keep the receipt anyway and ask your tax professional at the end of the year.