Congratulations! You’ve started working for yourself. Whether you are now the owner of a small business or have just started a new side hustle, expense tracking is key to your tax preparation success. Expenses detract from your taxable income, providing an accurate picture of what you actually took home.
How Do I Track Expenses?
As you get started in your new business, MBJ Accounting recommends two ways to keep track of your expenses – either through Quickbooks or the use of a spreadsheet.
Quickbooks is a popular accounting software for small businesses and is a great tool if your spreadsheets become too difficult to manage. Services include payroll, inventory control, invoicing, bill paying and time tracking and range in cost from $15 to $200 per month. Learn more at quickbooks.com.
If your accounting needs are minimal, or you are just getting started, spreadsheets are a great way for low-cost tracking (for free through Google Sheets or with your Microsoft Office Excel license).
What Expenses Should I Track?
The purpose of tracking expenses is to understand the cost of your business and provide an accurate picture of your net revenue. So, you should track all expenses related to your business including:
- Start Up Costs: Legal fees and costs to the Secretary of State for establishing your LLC are tax-deductible. Unsure if you should create an LLC? MBJ Accounting can help you navigate the pros and cons.
- Professional Services: Any support you receive from paid professionals like mechanics, attorneys, accountants, marketing specialists, etc.
- Utilities / Rent: Including lease payments, phone, electric, internet, etc. Keep reading for more guidance if you work from home or use your personal cell phone for business.
- Cost of Goods: This refers to materials or products that you purchase to resell to clients. Goods are different from supplies, which you use to do your job. These are different classifications so should be kept separate.
- Freight / Shipping: The costs to ship goods is also tax deductible.
- Supplies: These are items that are used regularly in the course of business. This can include everything from printer paper to specialized tools.
- Insurance: Any specialized insurance you have for your small business is tax deductible.
- Travel: Mileage, tolls and parking costs are small business write offs. Keep reading for more information on what you can deduct.
- Meals: Meals and entertainment purchased while doing business are tax deductible. However, the IRS does require an itemized meal receipt with the name of the establishment, the date of service, the items purchased, the amount paid for each item and the tax. If the tip is not included in the total, it should be written on the receipt. You should also be sure to log who and what the meal was for in case of audit.
- Marketing Expenses: Costs for printing, advertising, website, etc. are tax deductible.
I Work from Home. How Much Can I Deduct?
If you work from home exclusively (as in, have no other place to do business), there are two ways to capture the costs of working from home. You must select one option or the other.
- Regular / Actual Expense Home Office Deduction: To use the regular method for deducting your home office, you must determine the actual expenses of your home office. These expenses may include mortgage interest, insurance, utilities, repairs, and depreciation.
Generally, when using the regular method, deductions for a home office are based on the percentage of your home devoted to business use. So, if you use a whole room or part of a room for conducting your business, you need to figure out the percentage of your home devoted to your business activities. Learn more about home office deduction from the IRS.
- Simplified Home Office Deduction: Allows for $5 per square foot up to 300 square feet or $1,500, as well as allowable home-related itemized deductions. Learn more from the IRS about a simplified home office deduction.
What about Cell Phone and Internet?
Cell phone and internet costs are most likely shared between business and personal use, especially if you work from home. A portion of the overall costs can be deducted for the months that you were in business. 50 percent of the overall costs is a safe amount. If you feel that you use a more significant percentage, you may need to provide additional documentation, like an itemized phone bill.
How Do I Track Mileage and Vehicle Expenses?
Similar to the home office deduction, there are two ways to track vehicle expenses, and you cannot switch between the two.
- Actual Expenses: To use the actual expense method, you must determine what it actually costs to operate the vehicle for the business portion of its use. This includes gas, oil, repairs, tires, insurance, registration fees, licenses and depreciation (or lease payments) attributable to the portion of the total miles driven that are business miles.
- Standard Mileage Rate: As of July 1, 2022, the standard mileage rate is 62.5 cents per mile. In order to calculate your mileage deduction, you need to keep a careful log. Whether you keep a log book in your car, maintain a spreadsheet or utilize an app like MileIQ or Driversnote for tracking, you must be able to provide documentation for your claimed mileage.
Additional Tips for Expense Tracking:
- Track the Details: Your accountant is not liable for the expenses you provide. Thus, it is important to log expense details. As you track your expenses, be sure to log the vendor, amount paid, date paid and a description of the expense. This information can help your accountant identify any trends and help you be prepared in case of an audit, especially for mileage and meals.
- Keep Your Receipts: Whether you keep physical copies or electronic versions, you need to keep all expense receipts for at least three years for audit verification. Tax returns should be kept for at least seven years.
- Up-to-Date Expenses Can Help with Tax Projections: If you make quarterly payments or want to be prepared for what you will owe in April, having current expense logs can help you and your accountant make accurate projections of your tax liability.
Looking for a handy tool to track your expenses? We’ve developed a two different spreadsheets for you to utilize – for free! Happy accounting!