What is a Small Business Deduction?

A small business deduction is an item a company can claim on its tax form to reduce the money owed in federal or state income taxes. Most of these deductions fall into specific categories, such as vehicle-related expenses, start-up costs, business losses, meals and entertainment, travel or the business use of a personal home. Other common deductions include wages and bonuses paid to employees working in the company. Most individuals who file taxes for business income must fill out a specific form to list each qualifying small business deduction.

The use of business capital typically falls into one of two categories: business expenses or capital expenditures. Business expenses are the costs of doing business and often fall into one of the qualifying groups listed previously. Capital expenditures are assets that represent a significant cost to the company and will generally last longer than one year. These items include computers, machines, vehicles, buildings or other similar items. The only way for an individual to claim a small business deduction on a capital expenditure is through depreciation or amortization.

To claim a small business deduction on federal or state taxes properly, individuals must have proper documentation for all expenditures. Examples of proper documentation include receipts from goods purchased, meals eaten while entertaining a client or gas purchased for company vehicles. Generally, each expense is reported on a financial statement for every month in the tax year. The individual can use the dollar amounts listed on the financial statement when entering information into the business tax form. Receipts are only needed to prove the purpose or existence of such transactions when audited by the federal or state taxing authority.

An individual small business deduction may be subject to a specific limitation. Vehicle reimbursement payments may be a specific dollar amount; as of 2011, it was $.35 US Dollars (USD) for each mile driven in the business vehicle. Meals and entertainment expenses are often limited to 50 percent of the total cost of the amount reported by the business. Other business expenses, such as medical insurance premiums or expenses that are both personal and business-related are subject to percentages given by the taxing authority.

When individuals use a portion of their home for a qualifying business, the home owner may deduct a part of expenses for different small business deductions. Homeowners must calculate the number of rooms or square feet that are solely used by the business. Dividing this figure by the total rooms in the house or total square feet gives the allowable percentage for deducting qualified personal expenses. Individuals will apply this percentage to utilities and rent for additional deductions.