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This is a question about federal income tax in the United States.

I am an independent contractor/sole proprietor in the field of software development. Projects I work on sometimes require me to purchase computer hardware or software which I report as business expenses on my personal income taxes.

A client indicated they would need me to have a particular piece of hardware, so I bought it, opened it, and set it up. The next day, the client changed their plans and I no longer needed the piece of hardware, so I returned it to the store I had purchased it from. They charged me a restocking fee for returning the item because I had opened it.

Had I kept the piece of hardware, it would have qualified as a business expense. Does the stocking fee for returning the item count as a business expense, or would it not qualify?

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    This might sound a bit pedantic, but: was it an expense/fee you paid? Was it strictly for activities that are a part of the operation of your business? If the answer to those two is yes, then it was a business expense. – Makyen Oct 8 '19 at 5:05
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    It sounds like it should qualify... but one question might be: how strongly did your client "indicate" that you would need the equipment? As someone who only knows of the IRS by reputation, it wouldn't surprise me if they argued that there's a difference between "a signed contract that explicitly requires Gadget XYZ", and "an expectation of a contract that might be helped if you had Gadget XYZ". If you have paperwork/emails that demonstrate the former, it may be wise to keep them. – TripeHound Oct 8 '19 at 7:49
  • More interesting question would be: what if you'd decided to keep the item yourself, could you have written off the otherwise-charged restocking fee as a business expense? – Joe Oct 8 '19 at 18:10
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    @TripeHound I don't think that matters. If I own a grocery store, and I buy a bunch of llama milk thinking that it's going to be the next craze, but no one buys it, that's a business expense. An expense incurred in expectation of profit is deductible, even if the expectation was wildly speculative. – Acccumulation Oct 8 '19 at 19:46
  • @Acccumulation You're almost certainly right... I'm probably over-cynical about what people like the IRS (or HMRC over here) might try to clamp-down on. – TripeHound Oct 8 '19 at 20:05
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Business expenses don't need to be smart business expenses in order to be deductible. They just need to be somehow connected to your commercial activity. If you incurred an expense because you or your client made a mistake or changed their mind, that's also a business expense.

A common litmus test for what is and is not a business expense is to ask: "If you hadn't tried to do business, would you have had that expense?". You bought the item for your business and you returned it because it turned out you don't need it for your business after all. The restocking fee was a cost of doing business. Sure, it was a cost which could have been avoided if you had done better planning and communication. But just because a business expense was avoidable in hindsight doesn't mean it isn't a business expense. So I am pretty sure* that the restocking fee will be accepted as a business expense by the IRS.

Purchases the IRS might* find suspicious are any purchases which appear to benefit you personally. Any item you buy (and keep) which appears to be a personal luxury item which would be implausible as an item which serves your business. For example, if you buy a yacht for your IT business, you better prepare a good explanation why you need it to impress potential business partners. But if your business is a boat rental, such an explanation would likely* not be required.

*I am not a tax consultant, though

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    I really like how you re-used thw same asterisk a few times (3-4?). However, there are purchases that appear to benefict you personally, but will benefict you in your business. If you work from home, such an example would be a quite "top-of-the-line" gaming chair. A layman may think "why O.P. needs a gaming chair? To play at work?". When the truth is, it is a very comfortable chair and helps you be more productive as a side-effect. I don't know how the IRS would handle this. What is your opinion? – Ismael Miguel Oct 9 '19 at 17:25
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    @IsmaelMiguel My knowledge about US tax law doesn't go far enough to give a useful opinion on that. But in my location (Germany), there is a lot of legal precedence for deducting home business expenses. It is usually accepted if your home office is a separate room and your primary workplace. – Philipp Oct 24 '19 at 13:22
  • Thank you for your comment. I can see how that makes sense. – Ismael Miguel Oct 24 '19 at 14:05
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Yes.

Just like if your business entered into a contract with a penalty for non-completion.

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You bought something for your business. You used it in your business. You didn't need it anymore. You disposed of it as effectively as you could but nevertheless at a loss. If you could have treated the original purchase as a deductible business expense had you not later realized you didn't need it, you still can. The return of the item is effectively a sale that produces taxable income. That leaves you a net loss that is deductible.

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  • Not sure how this is done in the US, but in many countries, this is the real answer, as accounts should show an invoice, then a credit note for less than the original amount, so the original invoice does not disappear, it is merely (partially) compensated by a credit note. – jcaron Oct 9 '19 at 11:38

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