De Minimis Safe Harbor Election for Small Taxpayers

Sometimes, it’s hard for small business owners to catch a break. But, if you made large purchases for your company this year, you might be able to deduct them on your tax return. You can write off expenses by choosing the safe harbor election for small taxpayers.

What is a safe harbor?

A safe harbor relieves you of responsibility if you meet specified terms. In other words, you get some slack if you fulfill certain conditions.

The government can put a safe harbor provision on any number of situations. As a small business owner, you’ll want to know about the safe harbor election for small taxpayers.

The safe harbor election reduces or eliminates your tax liability if you meet the requirements. You can lessen your taxes owed by claiming qualified expenses as small business tax deductions.

Writing off expenses

Knowing how to write off business expenses sounds like a job for financial professionals. But, it’s important for you to understand some general ideas about tax write offs.

You know that you have to pay taxes on business income. To lessen your tax burden, you can write off small business expenses on your tax return. Often, the expenses are tangible property.

Tangible property

Tangible property has a physical form, like a machine or building. You can see and touch tangible property, and it takes up space at your business. Since tangible property adds to your business’s value, it’s an asset.

Some tangible assets are long term, meaning you will use them for more than one year. Long-term, tangible assets depreciate, meaning they lose value over time. Unlike deducting the entire cost of an item, you can write off depreciable property for several years by using Form 4562.

Ways to write off expenses

There are two major methods for writing off tangible property. The method you use depends on the IRS’s rules about tangible property regulations, the kind of asset, and the cost. The two methods are deducting and capitalizing expenses.

Deducting expenses

To deduct an expense, subtract all or part of the item’s cost from your tax liability. The IRS sets rules that say which items are deductible and how you calculate the amount of each deduction. Deducting is also called expensing.

Capitalizing expenses

Usually, with long-term assets, you should delay recognizing the expense on your tax return. You can delay the expense by capitalizing the asset.

Long-term assets cost more, and you spend several years paying them off. Capitalizing the asset allows you to spread writing off the item over several years. That way, you balance your tax write offs with the item’s invoice payments.

Safe harbor election for small taxpayers

The safe harbor election lets you deduct depreciable property instead of capitalizing it. Though you would have spread the write off across several years, the safe harbor election lets you get the full write off in the year you made the expense.

The cost of the item must be under the safe harbor threshold for you to deduct it. If the item does not meet the threshold requirements, you must capitalize it.

Safe harbor threshold

The safe harbor threshold limits the amount of tangible property you can deduct instead of capitalizing. You can deduct depreciable items with invoice amounts up to $2,500. Prior to 2016, the threshold was only $500.

For example, you bought a piece of equipment for $1,000. Usually, you capitalize equipment, meaning you write it off over several years. With the new $2,500 threshold, you can deduct the full amount during the current year.

Why does the higher threshold matter?

It gives you the opportunity for a larger deduction for the current year. If your funds are low, you don’t have to wait to write off an expense over several years. The new threshold also simplifies paperwork and bookkeeping rules for small business owners.

You must be able to show the IRS an invoice for the tangible property you are writing off. And, you can’t use safe harbor to deduct inventory or land.

Section 179

Similar to the safe harbor election, Section 179 allows businesses to deduct the full amount of an expense for equipment or software. Usually when you buy equipment, you have to write the expense off over time. For example, if you spend $30,000 on a machine, you might write off $10,000 for three years. Section 179 lets you write off the full $30,000 for the year you bought the item.

How to elect safe harbor

If you want to deduct a depreciable asset, you must elect safe harbor. To elect safe harbor, create a statement titled “Section 1.263(a)-1(f) de minimis safe harbor election” and attach it to your tax return.

The statement should include your name, address, Taxpayer Identification Number (TIN), and a declaration that you are electing safe harbor. By choosing safe harbor, you have to apply the rule to all expenses that meet the requirements.

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This article has been updated from its original publication date of November 18, 2016.

This is not intended as legal advice; for more information, please click here.

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