Startup costs are a special breed of expenses. The definition differs depending on if you’re talking financial accounting or taxes. Market research, legal fees to set up partnership or corporation entities, purchasing operating systems, and other expenses like these are usually grouped by bookkeepers into a single category.
But, as Journal of Accountancy reminds us, for tax purposes, these costs are not all treated the same way.
Sec. 195 defines startup costs as “costs incurred to investigate the potential of creating or acquiring an active business and to create an active business. To qualify as startup costs, the costs must be ones that could be deducted as business expenses if incurred by an existing active business, and must be incurred before the active business begins (Sec. 195(c)(1)).” So, for example, consulting fees, expenses to advertise the new business, and payments to employees before the business opens would all be included. Costs for experimentation would not be included. Also, once a taxpayer decides to acquire a particular business, the costs to acquire it are not considered startup costs, and the taxpayer must capitalize the acquisition costs.
Why does this distinction matter?
You need to be aware that different rules and regulations apply to different expenses that accounting lumps into the single category of startup expenses. For example, you can elect to deduct a portion of startup costs in the tax year where your business activity related to those costs begins, and to amortize the portion of the startup costs not deducted. Another example is that some of the expenses you incur when you start a new business are categorized as tangible depreciable personal property, which are depreciated over the life of the property.
There are myriad details and requirements that won’t fit into a single blog post, but I invite you to give us a call at (864) 836-3136 to schedule a time to talk if you have recently started a business and have questions.