Qualifying Expenses and Startup Tax Costs
Posted by Megan Morris-Smith on June 30, 2025
The article highlights important tax considerations for entrepreneurs launching new businesses in the U.S., especially regarding how startup and organizational costs are treated under federal tax law. With over 2 million new business applications filed in calendar 2025 to date as reported by the U.S. Census Bureau, understanding these rules is crucial for minimizing tax liabilities.
Key Tax Rules for Startups
Definition of Startup Costs
- These are expenses incurred while creating or investigating the creation or acquisition of an active trade or business.
- They include costs related to market research, feasibility studies, and other preparatory activities.
Deduction Limits
- You can elect to deduct up to $5,000 in startup costs and $5,000 in organizational costs in the year your business begins.
- However, this deduction is phased out dollar-for-dollar if total startup or organizational costs exceed $50,000.
- Any remaining costs must be amortized over 180 months (15 years) using a straight-line method.
Timing of Deductions
- No deductions (including amortization) are allowed until the business begins “active conduct”—meaning it is operational and capable of generating revenue.
- The IRS evaluates this based on:
- Intent to earn a profit
- Regular and active involvement
- Actual commencement of business activity
Qualifying Expenses
Startup Expenses
- Costs to investigate or create a business
- Expenses incurred in anticipation of a for-profit activity
- Must be deductible if incurred after the business starts (e.g., market analysis)
Organizational Expenses
- Costs related to forming a corporation or partnership
- Examples: legal and accounting fees, state filing fees
Planning and Recordkeeping
- Entrepreneurs must elect to take the startup and organizational cost deductions.
- Accurate recordkeeping is essential to substantiate these expenses.
- Consulting a tax professional is recommended to ensure compliance and optimize deductions.
Conclusion
Understanding the tax rules around deductions and amortization, and planning accordingly, can help new business owners make informed financial decisions from the outset.
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Megan is a principal in the tax department working with both businesses and individuals and has been with the firm since 2014. Her focus is on commercial entities, including S Corporations, C Corporations, and partnerships. She also works on manufacturers, consolidated groups, technology, and service companies. Additionally, Megan is a co-chair of the firm’s Research and Development tax credit department and has experience with credits and incentives for start-ups and commercial businesses.