How to write off repayment of a business loan

A business loan is just what it sounds like money your business borrows from a financial institution. But since most business owners look high and low for write-offs, you might be wondering if there are tax advantages that come with this financing.

Typically, the repayment of a business loan’s principal is not tax-deductible, but you can likely write off the interest that you pay on the loan. The proceeds from a business loan will not be counted as income toward your taxes.

Are business loan payments tax deductible?

Business loan payments aren’t tax-deductible. A business loan is not included as taxable income when a company receives a business loan. In turn, when that loan is repaid, you cannot deduct principal payments. You are simply paying back the money you borrowed, not spending money in any way you can write off.

However, you may still be able to make some deductions. Interest paid on your business loan is tax-deductible in most cases. Specifically, you can write the interest portion of your payments off as a business expense.

Let’s say you took out a small business loan, and your monthly payments are $1,200. If $840 of your payment went to pay down the principal, that means you paid $360 in interest on your business loan. Only the $360 would be eligible to deduct as a business expense.

Business loan interest deductions

It may be possible to deduct the interest associated with a business loan on your taxes if you meet some of the following criteria or guidelines: 

• You’re able to prove that you’re legally liable for the loan debt
• You have proof of repayment
• You can show a true debtor-creditor relationship with the lender 
• The funds were spent on something for your business, not just kept in a bank account

In addition to those guidelines, in some cases, interest on personal loans can be deducted if the money was used for business purposes. Lastly, you cannot deduct the full loan amount on your annual tax return if you only paid a partial amount of the business debt. 

Types of business loans with tax-deductible interest payments

The interest on various types of business loans can potentially be used as a write-off. In some cases, there are rules surrounding how much of the interest can be deducted.

• Personal loans: If the proceeds from a personal loan are used for business needs or expenses, the interest is tax-deductible. If you use just a portion of a personal loan for business expenses and a portion for personal needs, you can only write off the interest associated with the funds spent on your business.

• Auto loan: The interest on auto installment loans is tax deductible if the vehicle is used for business. If the vehicle is used exclusively for business, you can deduct all of the interest. If the vehicle is also used for personal needs, you can only deduct the interest for the percentage of business use associated with the car.

• Short-term loans: If your business takes a short-term loan and repays it in full during the course of a year, all of the interest associated with that loan can be written off.

• Lines of credit: Many businesses use lines of credit from lenders to cover operating expenses. The interest on this form of borrowing is tax-deductible as well. But you can only write off the interest on the funds you draw from the credit line each year.
• Term loans: These are loans with a long repayment period structured so that you pay interest upfront, providing a larger deduction that will shrink over time. As long as you are paying interest, you will receive an annual deduction.

Interest you cannot deduct

As a business owner, there are many valuable tax deductions available to you. But when it comes to the interest you pay on a business loan, there are a few cases when you will not be able to write off the expense. They include:

• Interest on loans for overdue taxes or tax penalties unless you are a C-corporation.
• Interest paid on your original loan using a second loan cannot be used as a write-off. But the interest on the new loan can be written off.  
• Interest for $50,000-plus loans borrowed on a life insurance policy for business owners or employees.
• Interest on loans you haven’t used.
• Parts of commercial real estate purchases, including points and origination fees, can’t be written off.

Using the loan for deductible expenses

Loan repayment isn’t tax-deductible, but what you used the loan funds for might be. If your loan was used to purchase new equipment, real estate or other select reasons, you may be able to deduct those items as business expenses on your taxes.

Business loans are used to fund expenses that fall into two categories: working capital and fixed assets. Fixed assets are generally financed through short-term debt. Working capital is typically financed through long-term debt.

• Working capital refers to everyday operation costs such as:

  • Payroll
  • Rent
  • Debt payments

• Fixed assets include items such as:

  • Office furniture
  • Machinery
  • Office or shop equipment
  • Construction costs
  • Building purchase or remodel

No matter the type of business loan you receive, keep detailed records and copies of all paperwork to give to your tax preparer.

How to do your taxes when you have a business loan

As a business owner, it generally pays to have a professional prepare your taxes. Tax law is complex, particularly when it comes to businesses. Your business type (such as LLC vs. C-corp) impacts how you’re taxed and can get complicated fast.

Fortunately, your tax preparer can help you navigate tax season while maximizing tax deductions from your business loan. Generally, you should be prepared to share all of the associated documentation with your tax preparer. That means any loan documents and proof of loan payments — including the interest paid — in the taxable year.

Keep careful records, making sure you track each business loan payment you make and the portion that went toward interest. With that documentation, head to your chosen tax preparer to file taxes for your business. That should be someone with experience in preparing taxes for your specific business type.

A seasoned tax pro will be able to identify which interest payments (if any) qualify as a business expense. In fact, if you’re considering a business loan, you may want to consult with your tax professional or financial advisor. They can advise you on the loan type and how to use the funds best to grow your business.

The bottom line

While you can’t deduct your loan repayment, you also won’t be charged taxes on the loan amount. The ability to deduct interest paid could lighten your tax burden. Plus, there’s a chance that you can deduct purchases or operating expenses related to the loan.

Don’t let the fact that you can’t deduct loan payments on your taxes deter you if taking out a business loan is the right course of action for your company. Business loans can help your company purchase equipment, expand operations or increase its working capital.

Frequently asked questions

• Is a business loan considered income?

  If you take out a business loan, it’s unlikely that it will be counted as income because you have to repay the amount you borrow. The most common exception to this is if you negotiate with a lender or creditor to reduce your debt. You will owe taxes on any debt that is forgiven.
  

• Do you have to pay back SBA loans?

  The Small Business Administration (SBA) offers several types of business loans. SBA loans need to be repaid. The good news is they usually come with long repayment terms between 10 and 25 years. Also, if you fail to repay an SBA loan, the lender may recover 50 to 85 percent of the outstanding balance from the SBA.
  

• Is a small business loan an installment or a revolving line of credit?

  A small business loan may be an installment loan or a revolving line of credit. With an installment loan, you get a lump sum of money upfront, with payments typically due monthly. A revolving line of credit is a bit more flexible because you can borrow as much or as little as you’d like — up to a set credit limit — and pay it back as you go.