Sole proprietors can enjoy the flexibility of being able to work when they want, where they want and how they want. However, these perks often times can make it harder to separate your business and personal activities. Working from home, using your personal vehicle for business and entertaining clients are just a few of the many areas where a sole proprietor may have a higher propensity for error. While separating your business and personal activities may never be completely black and white, we have some helpful tips to help you navigate the gray.

What to know about Personal vs. Business Expenses

  • Business expenses are defined as costs that are ordinary and necessary for your trade or business. Ordinary means the expense must be a common one for your industry. Necessary means the expense must be helpful to your business. If you are ever in doubt determining if something is business the first place you should start is by asking yourself if it is ordinary and necessary.
  • The IRS does not have a formal definition of nonbusiness expenses, however, nonbusiness expenses will generally tend to not be ordinary and necessary, provide you with a significant personal benefit, provide a related party or family member with a significant benefit, or not meet specific IRS requirements for deduction.
  • One of the best ways you can help draw the line between your personal and business expenses is to open up a business bank account. Simply having a separate credit or debit card that you only use for business can greatly reduce the likelihood of mixing up business and personal. Additionally, be sure you keep good records. Not only can good records help you substantiate your business expenses in the event of an examination, but the act of keeping good records by itself creates an additional filter that may help keep any borderline transactions off your Schedule C.
  • If you use an asset for both business and personal, keep track of what percent of your use is related to your business activities. Picking a meaningful metric to track business use, such as mileage, square feet, or time can help you turn your estimate into a substantiated amount that can be used to help you divide costs accurately.
  • More often than not you will know right away what side of the line an expense falls on. If you don't, ask your tax advisor or visit the IRS website to see if you can gain some additional clarity. If all else fails use your best judgement and err on the conservative side.

Disclaimer: The information contained here is provided for informational purposes only and should not be construed as financial or tax advice. It is not intended to be a substitute for obtaining accounting or other financial advice from an appropriate financial adviser or for the purpose of avoiding U.S. Federal, state or local tax payments and penalties.

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