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Schedule C: Start-up expenses

Hi! I started my business in mid-2023. Is it true that any business purchase before the first day of business is considered a start-up expense, including items that would otherwise be considered an expense, such as the cost of ingredients, restaurant licenses, liability insurance, etc for a food business? If so, why would anyone not "take" the deduction? I heard that in some cases it might be wise to not take it or take it at another important junction when you're making money? I may have misunderstood, but are there some cases in which it makes sense not to take the deduction?

 

Relatedly, does an R&D type activity like recipe testing/costing before the first day of business qualify as a startup expense?

 

Thanks!

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1 Reply
DaveF1006
Expert Alumni

Schedule C: Start-up expenses

Research and development (R&D) expenses are direct expenditures relating to a company's efforts to develop, design, and enhance its products. Certainly recipe tasting and costing would qualify as an R & D expense. Restaurant licenses, liability insurance, and the costs of inventory would not be considered R & D expenses because it does not directly relate in the development of new  processes and would be reported as normal business expenses in your business.

 

The R & D expenses and normal expenses need to be reported in the year the expenses occur if you use the cash basis in your accounting.  You can defer these expenses if you use the accrual method as your accounting method. This is especially critical if you have no income at this point but just expenses. Under the accrual method, you can defer reporting these expenses until you begin making money. 

 

Most small businesses use the cash basis of accounting while larger corporations generally use the accrual method.  In your scenario, if you use the cash basis, you would report the expenses in the first year, take the business loss.  The only risk in doing this is that if your business takes a loss in 3 out of 5 consecutive years, then the business is classified as a hobby. This is the decision you must make if you wish to declare these expenses in the first year as the business is developing. This again is true if you sue the cash basis for accounting, which is preferable for a small business.

 

Let us know if this helps and reach back to us if you have additional questions.   

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