Corporate Formation and Capitalization
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Formerly, no deduction was allowed for start-up expenses unless the corporation chose to treat those expenses as deferred expenses and to amortize them. When amortized, start-up expenses were deducted in equal amounts throughout not less than 60 months. The amortization period started in the month the active business is started or acquired (§195(a); §195(b)(1)).
The American Jobs Creation Act of 2004 modified the treatment of start-up and “organizational expenditures. As a result, a taxpayer is currently allowed to elect to deduct up to $5,000 of start-up and $5,000 of organizational expenditures in the taxable year in which the trade or business begins. However, each $5,000 amount is reduced (but not below zero) by the amount by which the cumulative cost of start-up or organizational expenditures exceeds $50,000, respectively. Start-up and organizational expenditures that are not deductible in the year in which the trade or business begins are amortized over a 15-year period consistent with the amortization period for §197 intangibles”. “A start-up expense is one paid or incurred for creating an active trade or business, or for investigating the possibility of creating or acquiring an active trade or business. However, to be amortizable, it must be deductible if paid or incurred in the operation of an existing trade or business in the same field. Amounts paid or incurred in any activity engaged in for profit and the production of income, paid before the day the active trade or business begins and in anticipation of the activity becoming an active trade or business, are considered start-up expenses. Start-up expenses should not be confused with organizational expenses, which are discussed later (§195(c))”.
Publication 535 (2017), Business Expenses
Start-up expenses are those incurred before the business begins operations. They include expenses both for investigating a prospective business and getting the business started. For example, they may include costs for the following items:
(1) A survey of potential markets,
(2) An analysis of available facilities, labor supply, etc.,
(3) Advertisements made for the opening of your business,
(4) Wages and wages for employees who are being trained, and for their instructors,
(5) Travel and other necessary expenses for lining up distributors, suppliers, or customers, and
(6) Salaries and fees for executives, consultants, or for other professional services (H.Rep. 96-1278, 10 (PL 96-605), 1980-2 CB 709, 712).
Start-up expenses will not include interest, taxes, or research and experimental expenses that are allowable as deductions (§195(c)(1)).
About Form 4562, Depreciation and Amortization
To amortize start-up expenses, complete Form 4562, Depreciation, and Amortization and attach it to the corporation’s tax to be paid for the tax year in which the amortization period starts. Also, attach a statement to the taxpayer’s return. It should show the total amount of those expenses and describe what they were for, the date incurred, the month the corporation began a business, and the months in the amortization period. The return and statement must be filed by the due date of the return including extensions (Ann 81-43).
A newly organized corporation may choose to treat its corporate expenses as deferred expenses and to amortize them. To amortize, deduct the expenses in equal monthly amounts throughout not less than 180 months starting with the first month the corporation is actively engaged in business (§248).
Note: Remember, the American Jobs Creation Act of 2004 modified the treatment of organizational expenditures. As a result, a taxpayer is currently allowed to elect to deduct up to $5,000 of corporate expenditures in the taxable year in which the trade or business begins. However, each $5,000 amount is reduced by the amount by which the increasing cost of organizational expenditure exceeds $50,000. Corporation expenditures that are not deductible in the year in which the trade or business begins are amortized over a 15 year period.
If the choice is not made, these expenses must be capitalized and may be deducted only in the year the corporation is finally liquidated. These expenses must be incurred before the end of the first tax year the corporation is in business (Reg.§1.248-1(a)(2)).
Organizational expenses are those incurred directly for the creation of the corporation that would be chargeable to the capital account. If spending for the creation of a corporation having a limited life, the expenses are amortizable over that limited life. They include expenses of temporary directors and organizational meetings of directors or shareholders, fees paid to a state for incorporation, and accounting expenses and legal services incident to organization, such as drafting the charter, bylaws, minutes of organizational meetings, and terms of the original stock certificates (Reg. §1.248-1(b)(2)).
Syndication vs. Organizational Costs
Stock Issuance & Syndication Expenses
Expenses for issuance or sale of stock or securities, such as commissions, professional fees, and printing costs, cannot be deducted or amortized. Nor can expenses for the transfer of assets to the corporation be deducted or amortized (Reg. §1.248-1(c)).
If a corporation wants to amortize organizational expenses, it must choose to do so when it files its return for the first tax year it is actively engaged in business. The choice must be made not later than the due date (including extensions) of the return for that tax year. The corporation completes Form 4562 and attaches it to its return. It must also attach a statement to its return (Reg. §1.248-1(c)).
The statement should show the description and amount of the expenses, the date incurred, the month the corporation began a business and the months over which the expenses are to be deducted. The time over which the corporation chooses to amortize its organizational expenses is binding.
Start of Business
A corporation starts a business when it starts the activities for which it was organized. Generally, this occurs after its charter is issued. However, a corporation is considered to have begun business if its activities reach the point necessary to establish the nature of its business activities, even though it may not have received its charter. For example, if a corporation acquires the assets necessary to operate its business, it may be considered to have begun business activities (Reg. §1.248-1(a)(3)).