While taxes should be a year-long concern for business owners, it’s commonly accepted that tax season starts ramping up every year in February and comes to a crescendo on April 15, the deadline for filing taxes on income earned the previous year. Since we’re right in the middle of that window, we thought we’d focus on the topic of the deductibility of business loan payments — with the caveat that you should always consult with your tax professional to review your specific situation.
What’s Not Deductible
Let’s start with what’s not deductible — and that would be the principal repayment amount. There’s a simple explanation for that; the borrowed funds are not considered income for your business since they aren’t earned. You are simply paying back the money with your principal repayment.
What Is Deductible
Many interest expenses are deductible, but as you might expect, the IRS has specific requirements loans must meet to cross the deduction threshold. For small businesses, you must be legally liable for the debt, and you and the lender must intend that the debt be repaid, something that can be documented with proof of payment and paperwork.
Another thing to consider is that the interest on a business loan can only be deducted when you spend the borrowed money. If you just put it in your bank account and let it sit there, you can’t deduct the interest because it’s considered to be an investment — unless perhaps you report the interest paid on the money as an investment expense.
Expenses that are deductible include:
- Interest paid or accrued on business loans, with the exception of:
- Interest on loans for overdue taxes or tax penalties (only C-Corporations can)
- Interest for loans to pay taxes or fund retirement plans
- Interest for loans of more than $50K that are borrowed on a life insurance policy for business owners or employees
- Interest on business credit cards, car loans, lines of credit, mortgages, etc.
- Interest from personal loans if you used the money for business
It’s worth restating what we said earlier: your tax professional will be able to answer all your questions about business loan interest deductions. The tax code is so complex, and changes so frequently, that this is not something you should attempt to figure out on your own.
Because we have worked with so many business owners, Clear Skies Capital can also be a valuable resource as you consider the tax ramifications of a business loan. We’ll be delighted to share our expertise in this area while investigating financing alternatives with you. Contact us to schedule a free consultation.