Tax time is right around the corner and you’re looking to make deductions on your business tax. Could you use your business loan as a way to reduce your taxable income?
Small business loans could be the key to success for your business.
That’s exactly what the owner of a women’s fashion store discovered after using an unsecured loan.
After achieving a decent level of success in its niche, the store found itself running into some problems.
While there was plenty of demand for the store’s products, they couldn’t quite fulfil it. Specifically, cash flow issues meant that they struggled to stock products in all possible sizes.
An unsecured business loan resolved that cash flow issue and helped the store boost its stock levels. Now able to serve a higher number of customers, the store placed itself in a position for growth.
While it’s clear that a business loan can help your company, it can also create some issues. You need to make repayments on the loan each month, which increases your costs.
Naturally, you may start to think about ways to mitigate this cost. And you may strike on the idea of deducting your business loan from your tax bill.
That thought brings us to the key question for this article – can you deduct business loans on taxes?
The Answer’s More Complicated Than You Think
Unfortunately, we can’t answer this question with a simple yes or no. Instead, we have to say yes and no.
Certain portions of your loan payments are tax-deductible. Specifically, you’re able to deduct the interest you pay on the loan from your tax return.
For example, let’s say you make monthly repayments of $500 on your business loan. From that $500, $150 is an interest payment that goes directly to your lender.
It’s this payment that you’re able to deduct. In this example, it means you could deduct $1800 for your tax bill at the end of the financial year.
Of course, the flipside to this is you cannot deduct the portion of the repayment that goes towards the loan’s principal. The principal is non deductible, and attempting to do so will lead to a refusal of the deduction from the NZTO. If you’d tried to get a larger deduction than you’re eligible for, this refusal could have serious cash flow implications.
Thus, it’s crucial that you fully understand the breakdown of your loan repayments before you make deductions.
Find out how much of your repayment goes towards interest and towards the principal of the loan. And remember, this number may vary by the month.
For example, you may find that the interest payment changes regularly if you have a variable rate loan.
The end of a fixed-rate term could also lead to changes, as could your continued repayment of the principal. As the principal falls, the amount of interest you have to pay goes down along with it.
Maintain accurate records for all of your loan repayments. Only interest on business-related debt is deductible, while interest on personal debt, such as a mortgage, is non deductible. And if you’re unsure about what you can deduct, speak to a tax professional for further guidance.
Can I Make Deductions if I Use the Loan to Pay My Taxes?
This is where we see an added complication thrown into the mix.
Generally speaking, you can deduct the interest paid on any form of business finance from your taxes. Such forms of finance include business loans, lines of credit, and your business credit card. To make a valid expense claim for this deduction, you must keep proper documentation showing the interest paid and the business purpose of the loan.
This is simple enough when you’re borrowing to buy stock or pay for equipment.
But what if you’re using the loan to pay a tax bill? Are you able to claim deductions on the interest in that scenario?
The NZTO’s specific instructions regarding this are as follows:
“Where a taxpayer carries on a business for the purpose of gaining or producing assessable income and, in connection with the carrying on of that business, borrows money to pay income tax (whether to preserve the assets of the business, maximise the return on them, retain sufficient money to fund the business or otherwise) then it is considered that the interest incurred on those borrowings is a normal incident of conducting that business.”
In other words, you can claim the interest on a loan that’s used to pay a tax bill. However, you can only do this for a business tax bill. If you get a loan to repay a personal tax bill, you will not be able to claim the interest on it. Claiming this deduction reduces the amount you need to pay in taxes.
The reason is that using the loan to pay a personal bill has no direct relation to the business. Specifically, it does not allow you to generate assessable income for the business. However, using the loan to pay a business tax bill does.
If you pay the business’ tax bill with the loan, you’re likely preserving assets that you use in the operation of the business. By retaining those assets, instead of having to sell them to make the tax payment, you affect the business’ income. Paying these business-related expenses on time is important to ensure you can claim the deduction.
Thus, you can deduct the interest from the loan that you used to make the tax payment. These deductions are calculated for the relevant tax year.
Getting the Deduction Right
As you can see, this is a more complicated issue than it first appears, especially if you’re borrowing to pay a tax bill.
To ensure you can claim your deductions smoothly, we recommend working with a tax professional for tailored tax advice. There are also a few things that you can do to get this right:
- Maintain up-to-date and accurate records relating to all of your business loans.
- Ensure that any deduction you claim meets the criteria for a valid business deduction—expenses must be directly related to earning income, not for private use, and supported by proper records.
- Keep track of changes in your interest payments.
- Stay up-to-date on any regulatory changes that the NZTO may introduce.
Financial Year Considerations for Small Businesses
For small business owners in New Zealand, understanding the financial year is crucial when it comes to managing business expenses and reducing your tax bill. The financial year, running from April 1 to March 31, is the period during which you’ll need to review your business income, expenses, and potential tax deductions. This is your opportunity to ensure you’re claiming all eligible business expenses and making the most of available tax deductions.
Throughout the financial year, you can claim deductions on a wide range of business expenses, provided they are used for business purposes. These can include rent paid on business premises, household expenses related to a home office, vehicle expenses for work-related travel, and insurance premiums. Business premises depreciation and interest on business loans are also tax deductible, helping to lower your overall tax costs.
To claim expenses, it’s important to follow Inland Revenue’s three basic rules: the expense must be incurred for your business, it must be an allowable deduction under tax law, and it must not be for private use. Keeping accurate and up-to-date records is essential for supporting your expense claims and ensuring you’re prepared if Inland Revenue requests further information.
At tax time, you’ll need to submit a tax return that details your business income, expenses, and all tax deductions you’re claiming. Inland Revenue’s website offers helpful resources and guidance on what expenses you can claim, how to calculate deductions, and the documentation you’ll need. If you’re unsure about any aspect of claiming expenses, seeking advice from a tax professional can help you avoid costly mistakes and ensure you’re maximizing your deductions.
If you operate your business from home, you may be able to claim a portion of your mortgage interest, rent, utilities, and other household expenses as home office expenses. These must be calculated based on the proportion of your home used for business purposes, so it’s important to keep detailed records and use a reasonable method for apportioning costs.
Investing in new equipment, assets, or vehicles during the financial year can also provide valuable tax deductions through depreciation. By spreading the cost of these purchases over their useful life, you can reduce your taxable income and improve your cash flow.
Ultimately, being proactive about your financial year planning and understanding which business expenses are tax deductible can make a significant difference to your bottom line. By keeping thorough records, claiming all eligible expenses, and consulting with a tax professional when needed, small businesses in New Zealand can minimize their tax bill and set themselves up for financial success.
Get Your Business Loan Today
So, you can deduct portions of your business loan for your business’ tax bill.
This fact may help you overcome any worries you have about getting a business loan. After all, it means that the repayment burden isn’t as heavy as you may expect. In addition to business loan interest, other business-related debts such as bad debts and office supplies may also be deductible, helping to reduce your taxable income. However, personal expenses like a home mortgage are generally non-deductible, so it’s important to distinguish between business and personal financial arrangements.
Now, you just need to work with a loan provider that will give you the best loan for your needs.
That’s where Unsecured Finance New Zealand comes in. We offer both small business loans and unsecured business loans that don’t require you to use an asset as security.
Apply online today. The process only takes minutes and you will receive a response within 24 hours.
