Publication 535 |
2001 Tax Year |
Going Into Business
When you go into business, treat all costs you incur to get your
business started as capital expenses. Capital expenses are part of
your basis in the business. Generally, you recover costs for
particular assets through depreciation deductions. However, you
generally cannot recover other costs until you sell the business or
otherwise go out of business. See Capital Expenses in
chapter 1 for a discussion of how to treat these costs if you do not
go into business.
You can choose to amortize certain costs for setting up your
business over a period of 60 months or more. The cost must qualify as
one of the following.
- A business start-up cost.
- An organizational cost for a corporation.
- An organizational cost for a partnership.
Business Start-Up Costs
Start-up costs are costs for creating an active trade or business
or investigating the creation or acquisition of an active trade or
business. Start-up costs include any amounts paid or incurred in
connection with any activity engaged in for profit and for the
production of income in anticipation of the activity becoming an
active trade or business.
Qualifying costs.
A start-up cost is amortizable if it meets both the following
tests.
- It is a cost you could deduct if you paid or incurred it to
operate an existing active trade or business (in the same field as the
one you entered into).
- It is a cost you pay or incur before the day your active
trade or business begins.
Start-up costs include costs for the following items.
- An analysis or survey of potential markets, products, labor
supply, transportation facilities, etc.
- Advertisements for the opening of the business.
- Salaries and wages for employees who are being trained and
their instructors.
- Travel and other necessary costs for securing prospective
distributors, suppliers, or customers.
- Salaries and fees for executives and consultants, or for
similar professional services.
Nonqualifying costs.
Start-up costs do not include deductible interest, taxes, or
research and experimental costs. See Research and Experimental
Costs, later.
Purchasing an active trade or business.
Amortizable start-up costs for purchasing an active trade or
business include only investigative costs incurred in the course of a
general search for or preliminary investigation of the business. These
are the costs that help you decide whether to purchase a new business
and which active business to purchase. Costs you incur in an attempt
to purchase a specific business are capital expenses that you cannot
amortize.
Example.
In June, you hired an accounting firm and a law firm to assist you
in the potential purchase of XYZ. They researched XYZ's industry and
analyzed the financial projections of XYZ. In September, the law firm
prepared and submitted a letter of intent to XYZ. The letter stated
that a binding commitment would result only after a purchase agreement
was signed. The law firm and accounting firm continued to provide
services including a review of XYZ's books and records and the
preparation of a purchase agreement. In October, you signed a purchase
agreement with XYZ.
The costs to investigate the business before submitting the letter
of intent to XYZ are amortizable investigative costs. The costs for
services after that time relate to the attempt to purchase the
business and must be capitalized.
Disposition of business.
If you completely dispose of your business before the end of the
amortization period, you can deduct any remaining deferred start-up
costs. However, you can deduct these deferred start-up costs only to
the extent they qualify as a loss from a business.
Costs of Organizing
a Corporation
The costs of organizing a corporation are the direct costs of
creating the corporation.
Qualifying costs.
You can amortize an organizational cost only if it meets all the
following tests.
- It is for the creation of the corporation.
- It is chargeable to a capital account.
- It could be amortized over the life of the corporation if
the corporation had a fixed life.
- It is incurred before the end of the first tax year in which
the corporation is in business. A corporation using the cash method of
accounting can amortize organizational costs incurred within the first
tax year, even if it does not pay them in that year.
The following are examples of organizational costs.
- The cost of temporary directors.
- The cost of organizational meetings.
- State incorporation fees.
- The cost of accounting services for setting up the
corporation.
- The cost of legal services (such as drafting the charter,
bylaws, terms of the original stock certificates, and minutes of
organizational meetings).
Nonqualifying costs.
The following costs are not organizational costs. They are capital
expenses that you cannot amortize.
- Costs for issuing and selling stock or securities, such as
commissions, professional fees, and printing costs.
- Costs associated with the transfer of assets to the
corporation.
Costs of Organizing
a Partnership
The costs of organizing a partnership are the direct costs of
creating the partnership.
Qualifying costs.
You can amortize an organizational cost only if it meets all the
following tests.
- It is for the creation of the partnership and not for
starting or operating the partnership trade or business.
- It is chargeable to a capital account.
- It could be amortized over the life of the partnership if
the partnership had a fixed life.
- It is incurred by the due date of the partnership return
(excluding extensions) for the first tax year in which the partnership
is in business. However, if the partnership uses the cash method of
accounting and pays the cost after the end of its first tax year, see
Cash method partnership under How To Amortize,
later.
- It is for a type of item normally expected to benefit the
partnership throughout its entire life.
Organizational costs include the following fees.
- Legal fees for services incident to the organization of the
partnership, such as negotiation and preparation of the partnership
agreement.
- Accounting fees for services incident to the organization of
the partnership.
- Filing fees.
Nonqualifying costs.
The following costs cannot be amortized.
- The cost of acquiring assets for the partnership or
transferring assets to the partnership.
- The cost of admitting or removing partners, other than at
the time the partnership is first organized.
- The cost of making a contract concerning the operation of
the partnership trade or business (including a contract between a
partner and the partnership).
- The costs for issuing and marketing interests in the
partnership (such as brokerage, registration, and legal fees and
printing costs). These "syndication fees"are capital expenses
that cannot be depreciated or amortized.
Liquidation of partnership.
If a partnership is liquidated before the end of the amortization
period, the unamortized amount of qualifying organizational costs can
be deducted in the partnership's final tax year. However, these costs
can be deducted only to the extent they qualify as a loss from a
business.
How To Amortize
You deduct start-up and organizational costs in equal amounts over
a period of 60 months or more. You can choose a period for start-up
costs that is different from the period you choose for organizational
costs, as long as both are not less than 60 months. Once you choose an
amortization period, you cannot change it.
To figure your deduction, divide your total start-up or
organizational costs by the months in the amortization period. The
result is the amount you can deduct for each month.
Cash method partnership.
A partnership using the cash method of accounting cannot deduct an
organizational cost it has not paid by the end of the tax year.
However, any cost the partnership could have deducted as an
organizational cost in an earlier tax year (if it had been paid that
year) can be deducted in the tax year of payment.
When to begin amortization.
The amortization period starts with the month you begin business
operations.
How To Make the Choice
To choose to amortize start-up or organizational costs, you must
attach Form
4562 and an accompanying
statement (explained later) to your return for the first tax year you
are in business. If you have both start-up and organizational costs,
attach a separate statement to your return for each type of cost.
Generally, you must file the return by the due date (including any
extensions). However, if you timely filed your return for the year
without making the choice, you can still make the choice by filing an
amended return within 6 months of the due date of the return
(excluding extensions). For more information, see the instructions for
Part VI of Form 4562.
Once you make the choice to amortize start-up or organizational
costs, you cannot revoke it.
Corporations and partnerships.
If your business is organized as a corporation or partnership, only
your corporation or partnership can choose to amortize its start-up or
organizational costs. A shareholder or partner cannot make this
choice. You, as shareholder or partner, cannot amortize any costs you
incur in setting up your corporation or partnership. The corporation
or partnership can amortize these costs.
You, as an individual, can choose to amortize costs you incur to
investigate an interest in an existing partnership. These costs
qualify as business start-up costs if you acquire the partnership
interest.
Start-up costs.
If you choose to amortize your start-up costs, complete Part VI of
Form 4562 and prepare a separate statement that contains the following
information.
- A description of the business to which the start-up costs
relate.
- A description of each start-up cost incurred.
- The month your active business began (or was
acquired).
- The number of months in your amortization period (not less
than 60).
Filing the statement early.
You can choose to amortize your start-up costs by filing the
statement with a return for any tax year before the year your active
business begins. If you file the statement early, the choice becomes
effective in the month of the tax year your active business begins.
Revised statement.
You can file a revised statement to include any start-up costs not
included in your original statement. However, you cannot include on
the revised statement any cost you previously treated on your return
as a cost other than a start-up cost. You can file the revised
statement with a return filed after the return on which you chose to
amortize your start-up costs.
Organizational costs.
If you choose to amortize your corporation's or partnership's
organizational costs, complete Part VI of Form 4562 and prepare a
separate statement that contains the following information.
- A description of each cost.
- The amount of each cost.
- The date each cost was incurred.
- The month your corporation or partnership began active
business (or acquired the business).
- The number of months in your amortization period (not less
than 60).
Partnerships.
The statement prepared for a cash basis partnership must also
indicate the amount paid before the end of the year for each cost.
You do not need to separately list any partnership organizational
cost that is less than $10. Instead, you can list the total amount of
these costs with the dates the first and last costs were incurred.
After a partnership makes the choice to amortize organizational
costs, it can file an amended return to include additional
organizational costs not included in the partnership's original return
and statement.
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