Previously bought items as current business expense?

[stilla]

I started a small business in June 2019 - I hold weekly group drumming classes in a very large space in my home and I am hired to facilitate rhythm events for work, church or family groups at my studio or at other locations.

For this business purpose, I put into use a large number of drums and percussion instruments and accessories that I had collected over many previous years. Because these instruments were not originally acquired for business purposes, they were never claimed as a business expense and I don't have any receipts or reliable records associated with their purchase.
Rather than depreciating each of these instruments and accessories over many years, I am choosing to consider them as a one time business expense.   Instruments range from $4 for small children's percussion "toys" to $600 for professional grade hand drums.

Because there was very little income from this start-up business (less than $2K), and the total value of the instruments is about $20K, I ended up with a substantial NEGATIVE business income. Turbo tax flagged the return as "high probability of audit" - I understand this, but the fact that I don't have receipts to show in case I am audited is making me very uncomfortable.

I want to do the right thing; I called the IRS and the small business expert who helped me looked through many different documents, but couldn't find any guidelines that exactly fit this situation.  SO, this is how I'm preparing for a possible audit. 1) I am making a detailed and accurate photographic inventory of all items I put into service for this business. 2) I created a spreadsheet that cross-references each image number with the item's current fair market value (finding online equivalents). This value is then discounted according to the current condition of the item (good judgement call).  3) I then added these resulting values to get the total business expense.

QUESTIONS:

A) Am I allowed to take previously purchased items/current business assets as a one time business expense? 

B) Is my way of assigning value fair and legitimate?  Is there another way of doing this?

C) Is there anything else I can do to prepare for a possible audit?

Thanks in advance, and sorry for the long explanation.

[AmyC]

A) Yes you are allowed to take previously purchased items and convert them to business use.

B)The value is the LOWER of fair market value or what you paid plus improvements.

C) yes, move the items to their proper category. These items are not a write-off. I believe you could argue them as start-up expenses or simply depreciate them as a group.

Here is what happens both ways:

• Companies put all expenses prior to starting up into one lump, start up expenses. Those expenses are depreciated over 10 years. Currently, you can write off the first $5,000 for your first year in business.
•  
• Go to assets and depreciation, enter instruments as a lump, enter the information using the lower of value from above. You will mark converted from personal use. You can write off all or part or let it depreciate over 7 years - for musical instruments.

[stilla]

Thanks so much.  That's pretty clear.

Is there any particular advantage to depreciating instead of a one time start up expense?

Is there anything technically wrong in counting them as a start up expense?

Thanks again.

[JohnB5677]

I think it is to your advantage to depreciate them rather than a lump sum. 

• If you take a lump sum and you start to make money you will deplete your income down to zero until you've used all of the deduction. And then you will be paying full tax.
• If you depreciate it, you may have some profit leftover that you will pay tax on, but you always get the deduction at the highest tax rate.

You can depreciate these items if you take them as a group.  Essential to the startup effort is creating a business plan.  A detailed map of the new business.  These expenses can be included:

• Research Expenses
• Borrowing Costs
• Insurance, License, and Permit Fees
• Technological Expenses
• Equipment and Supplies
• Advertising and Promotion
• Employee Expenses

[stilla]

Thanks so much for this.  I see how depreciating them could be advantageous... 

I went the depreciation route on TurboTax, just to see how that would go.   I could group items into, say:  Drums, Accessories, Small Percussion Instruments....etc, and assign an total value for each group.   TurboTax  asks me whether I owned these items before putting them to use for the business - if I accurately say yes...then it asks for a date an item was acquired.   Here's the problem, I simply don't remember, and I don't have receipts - I've got literally scores of items bought at different times, and since I'll be grouping them, it's going to be all mixed up, anyway.  So, I'm really struggling with this, since any date I put down is going to be a misrepresentation.   On the other hand, I'm already "depreciating" the items by fairly assigning a current value based on their condition.  So now the choice seems to be, A) say that I acquired these items this year for my business and assign them a current, "second hand/used", value (in a sense, as if I bought them this year from myself in their current, already discounted condition), OR, B) say they were in personal use before and then make up a date of acquisition.  In the latter case, I notice the value of the items gets lower the earlier the assigned date of purchase...and that doesn't really feel fair, since I'm already depreciating their value myself.    So, I'm leaning towards #1.  Opinions?

[RobertG]

You are correct.  

The date acquired should be the date they were placed in service for the business.

You never claimed depreciation on them before and you are using the lower of cost or FMV for your basis.

Go with option A.