Starting A Business

Do I need to get a business license?
Maybe. There is no federal requirement to have one, but your local government in the city, county, parish, etc. where you live will most likely require one at some point. After all, this is a source of tax revenue for them. So check with your local government to be sure. For example, as of this writing in my home state of Tennessee a local business license is not required unless your gross annual revenue exceeds $3,000. And a local license is not required at all if you are only selling farm raised products. So, if you reside in Tennessee, my advice is to wait until you are absolutely positive that your gross income from your business activity (other than farming) will exceed $3,000 before you go to your local courthouse to purchase  your local business license(s). Also here in Tennessee you can now purchase a “limited activity” business license if your annual revenue is between $3,000 and $100,000. As long as your annual business revenue is below $100,000 this is all you need for Tennessee. If your annual revenue exceeds $10,000 then you will be required to file a business return with the state of Tennessee and pay the proper amount of “gross receipts” tax.

Do I need a tax I.D. #?
For purposes of filing a federal income tax return, as long as you are filing as a sole proprietor (it’s just you doing the business activity) then no. You can use your social security number as your Taxpayer Identification Number on your IRS form Schedule C, Profit or Loss from Business (Sole Proprietorship) and attach it to your form 1040. However, if you are going to hire employees you definitely need a federal tax Employer Identification Number (EIN). Also there are some customers that you may do some contract work for that will require it. I suggest that you go ahead and get one. It is free to obtain your EIN from the IRS.  You can request it by clicking here. (Use this link:,,id=98350,00.html)

Don’t forget the state and local governments who gather revenue via sales taxes. If you are going to sell a product or service that is subject to sales tax in your area then you will need a sales tax I.D. number from your state. Not everything is subject to state and local sales taxes. For example, in Tennessee most services such as beauty shops, barber shops, doctors, dentists, etc. are not required to collect sales tax on their services; but, if you open a beauty shop and  purchase hair care products at wholesale without paying sales tax, and then sell those hair care products at retail, sales tax will have to be collected on the retail price and forwarded to the state. I suggest you Google the name of your state and department of revenue for more state specific information on these requirements and how to apply for a sales tax I.D. number and how to remit the sales taxes collected to your state.

Should I Incorporate or form an LLC or a Partnership?
I am not a lawyer and not qualified to give legal advice. That said, my income tax preparation business is not incorporated or an LLC and I have never been able to determine the necessity of it. Some people talk about the separation of your personal assets from the business assets in case of a problem, but to me that’s why you buy liability insurance. As your business grows you may someday determine that it’s best for you to incorporate or form an LLC, but I wouldn’t worry about it from the start. I will say that your tax return is going get a lot more complicated if you incorporate. While regular folks file a form 1040, a partnership is required to file a form 1065 and a corporation is required to file a form 1120. These forms have to be filed for the business first, and then the results of operating the business – be it a profit or a loss- are passed directly to the owner(s) via a schedule K-1. Then after you get your K-1 you still have to file your form 1040. I’m not even going to attempt to get into the way the business profits are taxed for corporations. So consult an attorney as you need to in order to make the best decision.

Do I need to establish a separate checking account just for the business?
While it’s not mandatory, it is recommended. You will need to keep up with your business expenses in order to deduct them. If you are a diligent record keeper and can clearly identify all of the business only items – and never include any personal items – then you don’t necessarily have to go to the extra expense of a separate checking account.

Do I need to have a separate credit card and use it just for the business?
While the first thing I have to say is that I personally discourage the use of credit cards – realistically here I have to say YES. At the end of the year when you’re trying to determine the total of all of your business deductions it will be a lot simpler if you only have to go back through the credit card statements for one account. If you are in the situation where you must pay any interest on any carried over unpaid credit card balance due, then definitely you need a separate credit card. It is somewhat complicated and difficult to substantiate tax deductible interest paid if some of the interest is for business purposes and the rest is personal.

If I open a business account and deposit some money into it, can I then pay myself a salary out of this account and fully deduct it?
No. Now if you form a corporation you can have the corporation hire you as an employee and pay you a salary – but if you’re self employed and will file a form Schedule C with your form 1040 you cannot do this. You operate the business until the end of the year and whatever profit the business makes is taxable – even if the profit is still laying there in the bank account unspent and not withdrawn by you. The fact that it’s there means that you earned it and it is subject to tax. Additionally, if your business makes a profit but you spend all of the profit for personal purposes, you will still be subject to tax on the profit – even if it is all gone. The fact that it was available for you to spend means that your business earned it – therefore it is taxable income.

What are some common items that you see taxpayers have a problem with whenever they are starting a new business for the first time?
Believe it or not, some people get so focused on keeping up with their business expenses that they forget to keep up with their income! The total receipts or sales that the business collects throughout the year is the starting point in completing the form Schedule C.

Another common issue is keeping up with inventory and sales taxes paid. This is especially important for certain businesses such as sales of cosmetics products and/or multi level marketing organizations. Often the statement or summary information that the taxpayer receives from the parent company is quite confusing – so spend some time deciphering and understanding this information, contact others in the same business or the parent company for help with this if you are affected.

Inventory is typically valued at your cost – not the retail sales price of the product. Remember that, as a rule, inventory is bad. It is not a deductible expense for you just because it is in your inventory, yet you may need to have it on hand in order to make a sale. This is where your business savvy comes in – you have to decide the right amount of inventory for your business.

Sales taxes that you collect are not income to you – they are income for your state and/or local governments. If your total receipts or sales calculation includes the sales taxes that you collected, then you need to separately deduct the sales taxes that you sent in. Conversely, if your total receipts or sales calculation does not include the sales taxes collected, then you’re done – do not deduct them again as an expense.

I’m an excellent record keeper and I have computer print-outs for everything – so I’™ll be in good shape in case Im ever audited, right?
Probably not. I have accompanied clients to full IRS audits and it’s been my experience that these computer generated print-outs will hardly get a cursory glance from the auditor. Why? Well, you could enter just about anything you wanted to into your computer program and print it out, but does that mean that you have adequate proof that you actually spent the money? Here, actual receipts are king.

I strongly suggest that you utilize the simple envelope method. Determine the major categories of your business expenses and put every receipt for that category into a separate envelope. At the end of the year, run an adding machine tape for each specific category of expenses and staple it to that stack of receipts. This provides hard evidence to the IRS that you have the actual receipts, that the amount you entered onto your form Schedule C came from the adding machine tape total, and that you didn’t just make it up.

What are some common categories of business expenses?
The IRS form Schedule C, Profit or Loss from Business (Sole Proprietorship) includes many major categories, in alphabetical order. I’ll list them below, with some brief comments of some typical examples. These comments are in no way meant to be all inclusive, but rather are just to give you and idea as to the types of items that can be deductible.

Advertising– printing business cards or sales fliers, newspaper or radio ads, sponsorships, give away items with company logo – pens, caps, etc.

Car and Truck Expenses – This can be either the actual expenses of maintaining and operating a vehicle, including depreciation on that vehicle or using the IRS standard mileage rate. Generally, if your business vehicle is very expensive to own and operate, gets poor fuel economy, and is used almost exclusively for business purposes, the actual expenses method may be better for you. A typical example might be a truck or van outfitted with tool boxes, storage racks or lift gate. Conversely, if you have regular car or light truck, the standard mileage rate will most likely be better.  The standard mileage rates are updated frequently by the IRS based on the costs of operating a vehicle. You need to keep a mileage log or some acceptable method of keeping up with the actual business miles driven. Whichever method you choose you must decide the year the vehicle is first used for business purposes – called placed in service. Once you choose which method you will use for that vehicle you cannot change – you must stay with that method as long as you own that vehicle.

From my experience, almost all of my small business clients use the standard mileage rate. I personally use the standard mileage rate. It is so much simpler. You don’t have to mess with depreciation and recapture rules if you sell or trade your vehicle. You simply keep up with the business miles and multiply by the rate. For example, 10,000 business miles x $0.55 = $5,500.00 as a deduction on this line!

I do not recommend leasing a car – both from a cost effective standpoint and from the complex burden that the IRS places on this activity. You can do it, but don’t expect to be able to go out and lease that Lexus or Mercedes and deduct all of the lease payments – the IRS has limits on the amount of lease expense that you can deduct!
Here’s a tip:  If you bought the vehicle and have a car loan you can also deduct the business part of the interest on the car loan. If you drive the vehicle 5,000 miles for business and 15,000 miles for personal purposes, you can deduct 250% of the interest on the car loan! Be sure to get the interest paid on the loan for the vehicle from your lender. Car loan interest has not been deductible on personal schedule A form, or itemized deductions, since 1990, so the lenders do not separately sent you any notices of interest paid on these loans – you have to obtain it from the lender.

Commissions and Fees – Referral fees, credit card acceptance fees, etc.

Contract Labor – Independent sub contractors who are self employed and responsible for all of their own personal income and social security taxes and file a tax return that includes a business entity.

Depletion – this typically applies to things like mining operations where you gradually deplete the available resources

Depreciation and Section 179 Deduction– Each business asset that has a life expectancy of a year or more can and should be either depreciated over time based on the IRS class life category or written off immediately using the Section 179 election if you have enough income to allow it. Each depreciated assed must be set up on depreciation individually and adequate records kept. The sale or trade of any depreciated or expensed asset is a taxable event and must be reported on the tax return for that year.

Employee Benefit Programs – only if you have employees and provide benefit programs

Insurance (Other than Health) – insurance on business assets, Errors and Omissions Insurance, if you use actual expenses for your vehicle then insurance on that vehicle, etc.
Note: Health insurance is fully deductible – if you qualify – as an adjustment to income on form 1040 page 1.

Interest – a) Mortgage, paid to banks, etc. – Loans to purchase business assets or business property.

Interest – b) Other – Credit Card or personal loan interest on business use items.

Legal and Professional Services – Attorneys, Accountants, Income Tax Return Preparation Service (like me!), Consultations, etc.

Office Expense – pencils, pens, copy paper, printer cartridges, receipt books, mileage logs, etc.
Pension and Profit Sharing Plans – only if you have employees and pay these things.

Rent or Lease – a) Machinery and Equipment – construction equipment, scaffolds, hi-lifts

Rent or Lease – b) Other business property – office space, storage facility

Supplies (not included in part III) – Items consumed in the normal course of operating your business – wood if you make wooden signs or build decks, paint and brushes if you’re a painter, pipe and fittings if you’re a plumber, etc. Note: the amount included in part III refers to the supplies consumed in the cost of goods sold calculations if you consume raw materials in the manufacturing of a product for sale.

Taxes and Licenses – Business licenses, sales taxes collected and sent to the state if included in your gross receipts or sales income total, road use taxes paid on over the road tractors, employee taxes, etc.

Travel Expenses – Business purpose travel expenses incurred while traveling away from your tax home – defined as the general are where you operate your business – airline tickets, rental car, motel room, cab fare, parking fees, etc.

Meals – Business meals purchased while traveling on business away from your tax home – defined as the general area where you operate your business. There is also a special method allowed for transportation workers subject to D.O.T. restricted work hours – such as over the road truck drivers. You cannot deduct your lunch everyday if you are in the general area where you operate your business. You can however, take a client or a potential client, business associate (such as your friendly income tax preparer) to lunch, pay the tab and deduct it – as long as you discuss business either before, during, or after the lunch. (Note that this category used to be called Meals and Entertainment, but the Entertainment part was eliminated with the Tax Cuts and Jobs Act of 2018.)

Utilities – only if you have a separate office not in your home or other business use building.

Wages – for employees – this gets really complicated quickly. If you need to hire an employee to operate your business profitably, then by all means proceed. Just be aware that the following forms will now be required:
W-4 Employee’s Withholding Allowance Certificate
W-2 Wage and Tax Statement
W-3 Transmittal of Wage and Tax Statements
Form 940 Employers Annual Federal Unemployment
Form 941 Employers Quarterly Federal Tax Return
Your state unemployment required forms

You must now withhold income taxes and social security taxes, match the social security taxes withheld with and equal amount of your money, make timely payments of these amounts, pay your states unemployment insurance, etc. You get the idea – it’s a big deal from the bookkeeping perspective – but it’s manageable – so don’t fear it if you need to hire employees.

Business Use of Your Home – If you have an area in your home used regularly and exclusively for business purposes, you can deduct that percentage of the homes mortgage interest, property taxes, insurance, rent, repairs and maintenance, utility bills, other expenses, and depreciation. You cannot set up office on the dining room table and then clear it off for dinner – that doesn’t meet the regularly and exclusively test. Fortunately IRS has also added a “simplified method” for office in home deductions. This method allows you to deduct $5 for every square foot of regular and exclusive use, up to a maximum area of 300 square feet.

Other– The IRS has this category for those things that don’t fall cleanly into any of the previous categories. Some examples are business use of cell phones, additional land line telephone expenses over the basic cost of one telephone line, internet access, closing expenses paid by realtors – pretty much anything that you actually paid for that is a justifiable and necessary part of conducting your business!