“It’s a Write Off!” – What is a Deductible Expense?

This post is a little different from my regular QuickBooks Online posts and videos.

I often hear people suggesting that because they can write off an expense as related to their business, it is somehow free– or they will be paid for it.

I have been given advice, that something won’t cost me anything because it is “A Write Off”.  When I try to explain that my tax rate is not 100%, so obviously it will cost me something I get nowhere (and sound facetious!).

I thought it was time to attempt to explain what the tax savings are, and what it does cost you, to purchase something for your business, and write it off against your income.

One of my favourite episodes of Schitt’s Creek also explores this conundrum!  I hope they don’t mind that I have enlisted their help for the explanation!

Do keep in mind, that purchasing items for your business that improve your productivity, help you to grow your business, or in any way improve your profitability may be a good idea.  It’s just not free!

I have included a calculator to enable you to determine what the after tax cost of anything you purchase for your business is.  You can download it here: https://learn.mycloudbookkeeping.org/write-off-calculator

As this is such a commonly misunderstood concept I invite you to share this post and video widely!

If you would like to keep better track of your write offs, and think QuickBooks might be for you, you can check out the different plans here: https://www.mycloudbookkeeping.org/quickbooks-plan-comparison

And reach out to me anytime for further assistance.

Video transcript:

Hi, Kerry here, from My Cloud Bookkeeping.

Today I am not going to be talking about QuickBooks. I am going to be talking about income tax deductions – and specifically, what does it mean when somebody says; “So, that’s a write-off” This is one of the most misunderstood terms I have encountered. I am going to walk through a simple example that will show you how much cash you have left in your pocket after you take into account the write off.

We’re going to use a very simple example where we have a net income of $50,000 and a tax rate of 30%. I’m not looking at different marginal rates, if you know what that means, fantastic, you can rework the information using the rate that’s applicable. But for the purpose of this exercise, we’re going to keep it really easy.

As you can see, based on these numbers, if we have a net income of $50,000 and income tax at 30% and we are paying $15,000 in income tax. We have $35,000 left for ourselves, or to we invest back into the business. 

Okay, so now we are going to have a look at the taxable expense. Somebody at the bar or the hairdresser has suggested to you that you should buy things for your business because it's a write-off. I always have the same question as Eugene Levy.

“Do you even know what a write off is?”

“Hmm, yeah. It's when you buy something for your business, and the government pays you back for it.”

“Oh, and who pays for it?”

“Nobody. You write it off.”

“Who writes it off?”

“I don't know. The government—the write off people. What—why are we having this conversation?”

“So, if I need booze to get through my day, I can just write that off?”

“That's a stretch.”

Let's have a look and see what really happens to a business expense that's deductible.

Let’s spend $2,000 buying something for our business. It could be a new table saw, it might be a fancy printer, whatever it is that you need, we're going to spend $2,000. Now as you can see, our net income or our profit is now $48,000, the income tax has dropped to $14,400. So we're left with $33,600. You can see that our income tax bill is $600 less than it was before. So we do have a saving in taxes. However, notice that we have$1,400 less. So what we've purchased for $2,000 has really only cost us $1,400.

Now let's consider for a moment that you've just spent $14,00 of your hard-earned income buying something for the business. You really want to make sure that, that's an expenditure that makes sense. Is it something that's going to save you time? Is it something that will save employees time? Or add value to the final product that you deliver to your client? Is there a reason for spending this $1,400 in your business, instead of taking it home? If this really is something that's going to add value to your business, I'd say go ahead.

Now, I think I've explained this pretty well, but I'm going to get Eugene Levy from Schitt’s Creek, just in case you haven't recognize these wonderful clips. Such a great show if you haven't seen it, and he's going to have a go at explaining what a write off is too.

“A write-off is a business expense used to reduce your taxable income.”

“Okay. Well then, why isn't it called a tax write off?”

“It is, it is! You can just buy things for yourself and write them off.”

“Well, then I’ll return some things.”

So as you can see, tax-deductible does not mean free, you're still going to be outlaying some of your cash for the item, it's going to cost you less due to the tax savings, but it's not free, so do think about it.

Now, when it comes to what actual expenses are tax-deductible for your business and what tax rate you're at, talk to your accountant, they'll be able to help you walk through these steps. And I've got a downloadable spreadsheet—an Excel spreadsheet that you can download and put your own numbers in and just see what it looks like when you're trying to make these purchasing decisions. If you know you're going to be out of pocket $1,400or $14,000 or whatever the amount is, you might think twice about ensuring that it really is going to improve your business, your efficiency, or make a difference to make it worthwhile spending that money that otherwise you could take home. Next time someone gives you some advice to buy something you don't really need for your business because it's a write-off, you know what the impact is. You could share this video with them, or you could just smile and nod and let them go on their way.

If this is useful, click like, subscribe to my channel, and if there's something else you want to know please make a note below, and my next video could be for you.

Cheers.