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What Is a Tax Write-Off?
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Running a small business is undeniably expensive, which is one key reason the IRS lets small business owners deduct certain business expenses from their taxable revenue. These deductions — informally known as tax write-offs — lower a business’s taxable income, which can help small businesses save money.
In this article, we’ll explain what a tax write-off is, which business expenses are tax deductible, and how to make tax deductions when filing taxes.
(Note that a tax write-off is not the same thing as an accounting write-off. While we briefly explain accounting write-offs, they aren’t our primary focus in this article.)
Tax write-offs: Table of contents
What is a tax write-off or deduction?
A tax write-off (an unofficial term for a tax deduction) is a business expense that the IRS allows you to deduct from your business’ profit when filing federal taxes. Writing off an expense means you lower your overall taxable income — which may mean you’ll recoup some of the cost of those expenses in your tax return. You might also see a write-off referred to as deducting or itemizing an expense. All three terms mean the same thing.
Not every business expense is tax deductible. Instead, per the IRS, a business expense must be both necessary to your business’ operations and an ordinary expense for your business, meaning it’s a common expense in your specific industry.
The IRS uses necessary as a general benchmark term: a necessary expense doesn’t have to be something you can’t do without. Instead, it can be a purchase that helps you run your business, as long as that purchase is typical for business owners in your field.
An expense the IRS terms ordinary and necessary depends on your field and industry. For instance, educators can deduct a certain amount of school supplies, and freelancers who work solely from a dedicated home office can claim a portion of their rent or mortgage as a tax deduction. However, school supplies or a home office space would not be considered an ordinary or necessary expense for an industrial supply manufacturer or commercial pilot.
Additionally, some expenses are explicitly not tax deductible even though they’re necessary to your business operations. These include expenses related to the cost of goods sold (COGS), capital expenses (expenses required to get your business off the ground, like startup costs), and personal expenses.
Of course, since we’re talking about federal taxes, there are exceptions to every rule. For instance, if you purchase something partially for personal use and partially for business use, you could deduct part of the expense from your business income.
To learn more, we recommend reading through the IRS’s overview of small business tax deductions. Additionally, you should always consult with an accountant for professional tax-filing advice specific to your business.
1. Understand the self-employment tax
Traditional employees pay half of their own Medicare and Social Security taxes, with their employer matching the second half. However, if you’re self-employed, you’re both employer and employee. Along with withholding and filing your own income tax, you’ll also pay both the employee and employer halves of the FICA tax. That’s a 12.4% tax for Social Security and a 2.9% tax for Medicare, or 15.3% total.
While the Social Security tax applies only to the first $137,700 of your income, the Medicare tax applies to your entire income.
As a self-employed individual, you can claim the employer portion of your self-employment tax as a deduction. Read the IRS’s guide for a complete list of deductions.
What are the most common tax deductions?
So what can you actually deduct on your tax return? Depending on your business, you might be eligible for deductions in the categories we list below. Before we dive in, though, here are a few things to consider first.
First, while these are some of the most common deductions, this list isn’t comprehensive. Plus, different types of businesses qualify for different deductions: C corporations won’t make the same deductions as sole proprietors. For a more complete list of potential deductions, see the IRS’ deduction guidelines and consult with an accountant.
Next, remember that some of these expenses can’t be deducted if they’re related to capital costs, calculating the cost of goods sold, or personal costs. For example, accounting help related to starting your business can’t be deducted — those expenses must be claimed through depreciation and amortization (the IRS explains more in IRS Publication 535).
Finally, bear in mind that while you can deduct certain expenses, you might not want to. Why? Because while lowering your taxable income might get you a bigger tax return, it can have other financial consequences for your business — like determining which loan amounts you qualify for.
Again, we always recommend speaking with an accountant, banker, tax advisor or other financial professional to understand how tax write-offs can affect your bottom line.
Small businesses can usually write off the monthly or annual cost of using accounting software. Similarly, if you pay a CPA to file your business’ taxes, you can deduct that expense, but only for the business-related portion of your taxes (like filing a Schedule C form). You can't deduct the money you spend on filing your personal taxes.
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Do you travel for work? You can likely deduct the mileage for your business-related car trips. For the 2022 tax year, the mileage deduction rate is 58.5 cents per mile through June 30 and 62.5 cents for the last six months.
You’ll need to track your mileage exactly — a rough estimate won’t do. That means checking your car’s odometer before and after every trip, plus recording the dates and times of each business-related car trip. (Accounting software like QuickBooks Self-Employed can track mileage for you, including recording timestamps).
You can usually deduct gas, maintenance, licensing, registration, and insurance costs for a car you use for work. However, you can’t deduct both mileage and car expenses — you must choose one or the other.
If you didn’t record your mileage for this year’s taxes but do have receipts for gas and insurance, you should opt to deduct vehicle expenses rather than mileage.
No matter which tax write-off method you choose, you need to be specific and accurate. Do not guess on or average your vehicle expenses. Round numbers that look like general estimates are often a red flag for the IRS and can trigger an audit.
If you work from home, you can deduct some of the cost of your home office. You cannot write off a home office if you use the space for any other purpose. The space must be a dedicated office.
You can calculate a standard deduction based on your office’s square footage. For this tax year, you can deduct $5 per square foot (though you can’t exceed 300 square feet — which means the most you can deduct is $1,500).
Alternatively, you can determine the percentage of your home used for your home office or itemize purchases made for your home office. Typically, these methods are a little more complicated than the simple square footage calculation.
To learn more about how to calculate your home office deduction, read through the IRS' list of deduction calculation methods.
When renting office space, you can typically deduct the cost of rent from your taxes. However, if you have the title to the property or have any equity in it, you can’t make a rent deduction.
Employee pay and benefits
You can typically write off your employees’ wages, including bonuses and gifts. You can also write off the employer cost of contributing to employee benefits, including medical insurance and retirement accounts.
However, even if you’re self-employed, you can’t write off the cost of medical bills. Instead, individuals, including sole proprietors, must deduct medical expenses on their personal taxpayer forms.
COVID-19 and small-business tax deductions
While most tax write-offs related to the CARES Act (Coronavirus Aid, Relief, and Economic Security Act) should have been resolved with your 2020 taxes, you may still be eligible for a tax credit based on the Infrastructure Investment and Jobs Act. This tax credit relates to employee retention and is limited to wages you paid employees in 2020 and 2021.
For more in-depth information about COVID-19 tax relief, we recommend reading through the IRS' Employee Retention Credit info page. Then, speak to a financial advisor to determine which credits and write-offs you may qualify for.
How to write off business expenses
To claim tax deductions on your federal income taxes, you’ll file a Schedule C form. You use this form to calculate your business’s profit and loss and to report that number to the IRS in your tax return.
What documents do I need to file a Schedule C?
To fill out a Schedule C, you need a copy of your business’ profit and loss statement (aka income statement) and balance sheet. If you sell inventory, you need information on your cost of goods sold. If you bought any assets in the last tax year, you’ll need receipts or other financial documents recording the transaction.
And for itemized deductions — tax write-offs — you need whatever documents provide you with the information you need to accurately calculate your business expenses. That could include receipts for accounting software costs, payroll statements or bank statements.
You don’t need to submit all these expense-tracking documents to the IRS, but you do need to make clear, accurate expense deductions. And if you’re audited, you’ll definitely need these documents on hand to back up your deductions. Once again (we can’t stress this enough), talk to an accountant about making accurate deductions for your business.
How do I fill out a Schedule C?
A Schedule C form has several key sections that you need to fill out thoroughly. An accountant can guide you through the processes of completing each of the following sections of a Schedule C:
- In Part I, calculate your business’ gross profit and income.
- In Part II, list your itemized deductions, which means listing your business expenses line by line and by expense type (advertising, employee benefits, office expenses, etc).
- In Part III, tally up your cost of goods sold.
- In Part IV, itemize vehicle expenses. If you have additional expenses not listed in Part II, you can list them in Part V.
- Finally, once you’ve tallied expenses, you can calculate your business’ net profit or loss.
You’ll then submit your finished Schedule C form with your other small business tax documents. Taken together, these documents help determine if you’ll receive an income tax return or if you owe money to the federal government (or, for that matter, to your state or local governments).
Tax write-offs can help you recover some of the necessary costs that come with running a small business. Before filing your tax return this year, consult with an accountant to learn more about which itemized deductions you can make — your bottom line will thank you.
Looking for more guidance on small business finances? Read our piece on small business bookkeeping basics.
Tax write-off FAQ
To write something off in taxes means to claim a business expense on your end-of-year tax forms. The type of business expense you can deduct depends on the type of small business you run and what field you work in. For the IRS’s purposes, your business expense has to be ordinary and necessary to qualify as a write-off, and not every business expense is tax deductible.
A tax write-off is different from an accounting or business write-off, which refers to the process of removing an asset from your books when it loses value.
It’s not bad to write something off—quite the opposite! In fact, the IRS provides thorough instructions to help small businesses write off as many qualifying expenses as possible. In general, and with an accountant’s guidance, you can and should write off as many expenses you can.
Of course, it’s obviously bad (read: illegal) to falsify a business expense or inflate the cost of a qualifying expense. If you do this, you could be audited, and you’ll be subject to fines and other penalties from the IRS. Don’t do it!
Additionally, adjusting your business' taxable income may change which loan amounts you qualify for. Again (we really can't stress this enough), make sure to talk to a CPA, tax advisor, or small-business banker to discuss your specific situation.
What's the difference between a tax write-off and a tax deduction?
A tax write-off and a tax deduction are the same thing. A tax deduction is simply the official term for any business expense you can deduct from your business’s overall revenue on your federal taxes. It’s the term you’ll see the IRS use and that your accountant will likely use. (You might also hear the term itemized deduction as a synonym for a tax write-off or deduction. However, this term is more commonly used when talking about personal taxes rather than business taxes.)
What is an accounting write-off?
A write-off in accounting is not the same as a tax write-off. In business accounting, a write-off refers to adjusting your books for accuracy when an asset loses all value. If an asset can’t be liquidated for cash or lacks market value completely, you need to remove that amount from your asset account and potentially list it in an expense account. (Learn more about debiting and crediting your asset and liability accounts in our piece on double-entry bookkeeping.)
Writing off an asset usually happens in the following situations:
- When you can no longer use a fixed asset — for instance, if you own a damaged piece of equipment or machinery that’s reached the end of its warranty or lifespan. If the equipment can’t be fixed or sold, only scrapped, you’ll write off that fixed asset.
- When a client is unable to pay a bill — for instance, if a client with an outstanding invoice has declared bankruptcy and you won’t be able to collect the amount you’re owed. This is called a bad debt write-off, and it requires you to remove the bad debt amount from your accounts receivable.
If an asset doesn’t completely lose its value but decreases substantially in value, it’s referred to as a write-down, not a write-off. And if you’re fairly sure an outstanding invoice might become a bad debt (or if you let customers purchase inventory on credit), you have a doubtful debt rather than a bad debt.
Although bad debt and fixed asset write-offs aren’t the same as tax deductions, the loss of an asset or income does impact your taxes. (In particular, make sure to read through the IRS’s guidelines on bad debt expenses and deductions.) If you need to perform a write-down or write-off, reach out to your accountant for advice. You need to thoroughly document the write-off or write-down to ensure accounting accuracy, both for your business’s bottom line and the IRS.
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