One of the most dreaded words for any small business owner to hear is “audit.” If your business is preparing to talk to the IRS about unfiled taxes or back taxes, working with a trusted tax adviser and putting the structure in place to keep your books in good order will make the process easier. Here are three common mistakes that small businesses make that can get them in trouble with the IRS, and the steps you can take to fix them.
Avoid Accidental Underpayment
The penalties for under reporting your income are severe: business owners you fail to submit at least 90% of their taxes can be forced to pay anywhere from $5,000 to 10% of your total income. You may be required to pay 5%-25% of the unpaid taxes each month. For that reason, it’s crucial that you accurately report your income the first time around.
One of the biggest ways that businesses accidentally under report their income is by not reporting barter and cash transactions. Getting tax help early and keeping track of all transactions from the start can save you from a tax audit later.
Do not Estimate
When it comes time to do your 1040 form, it may be tempting to round numbers to make them easier to calculate. As tax advisers will tell you, though, this can open you up to IRS scrutiny. Experts agree
that it is permissible to round to the nearest dollar, but don’t round to the nearest hundred. For example, if your copier is $389.99, you would be safe rounding to $390, not rounding to $400.
Keep Clear Records
If you file a claim for loss from worthless securities, you’ll need to keep records of that for seven years. Tax advisers will generally recommend that seven years is the ideal time to keep records for all transactions, as these will be helpful in your upcoming audit or in the event of a future audit. The seven year rule is an inflexible rule if you’re working with state or federal funds, such as in a public agency or nonprofit organization.
In addition to keeping records of your books, you’ll want to have ready justification for all of your expenses. Many businesses get in trouble when they claim home office deductions, as the IRS defines this as a part of your home that is “exclusively and regularly used for your trade or business/a>.” Be sure that you have a justification for every expense, and make sure you have help with your taxes from a trusted adviser come tax time.
As you prepare for your audit, be sure to work with trusted tax advisers who can make recommendations for you to improve the accounting of your business. No one enjoys working out back taxes and digging up documentation for an audit, but fortunately, the process should allow you to have neat books and a solid tax return going forward.