Any entrepreneur who has started a business, or is contemplating starting a business should understand about startup costs. All new businesses incur costs before they begin active business operations. Typical startup costs include market analysis, due diligence to investigate whether to acquire a particular business or franchise, or construct a venture from scratch, and the acquisition of essential infrastructural assets, holdings, contract agreements, and licenses. For a business operated through a partnership or corporation, there are organization costs to form the entity, plus professional and filing fees. Startup cost obligations span a wide variety of types of costs, and can mount to thousands, hundreds of thousands, or millions of dollars, even for relatively “small” business enterprises.
What’s at Stake Here?
I put that ‘small’ in quotes because the U.S. Small Business Administration classifies almost any business with less than $7.5 million in annual sales receipts as small. The IRS generally uses a cap of $10 million in assets to classify a business as small. So, what is ‘small’ by business and government standards can be rather imposing to a hopeful entrepreneur who has previously dealt with only personal income and expenses, and budgetary levels on a household scale.
For financial accounting purposes, startup costs are all treated in the usual bookkeeping way. However, what you learned in basic accounting class to prepare for your entrepreneurship and business management aspirations will not be adequate for tax purposes, and you will need the help of a qualified business tax accountant to stay out of trouble. Costs that are financial accounting startup costs must be further subdivided into smaller more specific categories for tax accounting purposes, and each special category is treated somewhat differently.
It’s best to get an expert involved as soon as you start spending toward your new business startup costs — and definitely before any tax returns are filed with IRS. Baum CPA is the kind of expert business tax accounting service firm that can meet all of your business accounting needs, whether at startup or at any point in the operation of your business venture.
Startup Costs for Book Purposes
For business management bookkeeping purposes, startup costs are the costs a business incurs in preparing to begin operations. Under FASB ASC (the official rulebook of the accounting profession — Financial Accounting Standards Board / Accounting Standards Codification), business startup activities include the following expenditures:
- Opening a new facility
- Introducing a new product or service
- Conducting business in a new territory
- Conducting business with an entirely new class of customers or beneficiary
- Initiating a new process in an existing facility
- Commencing some new operation
- Organizing a corporation or partnership
For financial accounting purposes, the business must record in the company’s official accounting general ledger the expense of startup costs as they actually happen.
Startup Costs for Tax Purposes
For tax purposes, the treatment of startup costs before a business becomes operational is often more complicated than for regular bookkeeping or financial accounting purposes — sometimes much more complicated. Startup costs booked for financial accounting purposes must be analyzed, and depending on various factors, possibly subdivided into smaller categories that are treated differently for tax purposes.
The categories that financial accounting startup costs might fall into for tax purposes are:
- Organizational costs
- Syndication costs
- 195 startup costs
- 197 intangible costs
- Tangible depreciable personal property costs
(Sec. 195 and 197 refer to that official rulebook of the accounting profession that I previously mentioned, FASB ASC.)
The differences between the book treatments from the prior list and the tax treatments listed here has to be reconciled on an attachment to the federal tax return using Schedule M-1, Reconciliation of Income (Loss) per Books With Income per Return.
Do your eyes glaze over when reading about official accounting rulebooks, IRS forms to fill out, expense subcategories, and especially income/loss reconciliations? Most people’s eyes do. (We deliberately disabled the link to the IRS Schedule M-1, because you really do not want to look at it.)
At Baum CPA, we have a staff of expert accountants whose actual regular full-time day jobs is to know and understand all of the subtleties of , without our eyes glazing over! So, we are able to patiently explain all of it to entrepreneurs on their way or in the process of starting up their own business. Even more important — our accounting experts will carefully and correctly analyze the subcategories, perform the reconciliations, and fill out all of the ledgers and forms to keep those same entrepreneurs — as happy, satisfied clients — out of trouble with the IRS!
If you are thinking about starting a business or have already started one, why don’t you treat yourself to a consultation with an accounting expert at Baum CPA? Just click here and book an appointment today.
How about a Little Taste of Official Sec. 195 Guidelines?
Still not convinced? To make the following excerpt more readable and less eye-glazing, we’ve removed the copious parenthetical section and paragraph citations.
- For tax purposes, 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. Startup costs include consulting fees and amounts spent to analyze the potential for a new business, expenditures to advertise the new business, and payments to employees before the business opens. Startup costs do not include costs for interest, taxes, and research and experimentation. Once a taxpayer decides to acquire a particular business, the costs to acquire it are not startup costs, and the taxpayer must capitalize the acquisition costs.
- A taxpayer may elect to deduct a portion of startup costs in the tax year in which the active conduct of the business to which the costs relate begins and to amortize the portion of the startup costs not deducted over a 180-month period. A taxpayer is deemed to make the election to deduct and amortize startup costs unless it affirmatively elects to capitalize startup costs by attaching a statement to the taxpayer’s timely filed tax return, including extensions, for the tax year in which the active conduct of the business begins. The deemed election to deduct and amortize startup costs or the affirmative election to capitalize them is irrevocable.
Still Want to Go It Alone?
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Just click here and book an appointment today with Baum CPA. Find out how easy it is for us to serve you peace of mind and expert accounting confidence.
This blog and its authors provide this content strictly for informational purposes. No content herein should be misconstrued as financial advice. Everyone’s specific circumstances vary — Always consult with a qualified, licensed financial advisor, legal counsel, and tax professional before venturing into any investment or business activities.