IRS Audit Red Flags to Avoid
In late 2020 the IRS announced that it would increase tax audits of small businesses by 50% in 2021. Businesses are still dealing with the consequences of the pandemic and an IRS audit is the last thing business owners want to worry about. To help you avoid red flags we have put together a list of actions that the IRS concentrates on.
Consistently filing late
Filing late can trigger unwanted attention from the IRS. At CPA by Choice, we recommend that you do not wait until the last minute to file your taxes and to start the process of filing taxes as early as January.
Running a business where the majority of money is in cash
Businesses that deal mostly with cash transactions are almost a direct target for the IRS. Businesses that are popular for dealing with cash transactions for the most part include bars, restaurants, vending machines, hair salons, etc… We recommend that if you accept cash that you write an invoice for your client, have your client sign it, and deposit the cash into your business account so that you are able to reconcile your deposits and payments and so that your support matches all cleared deposits and payments. The same applies for payments you make in cash; you should ask for an invoice/receipt and save it for your records.
Deducting business meals / travel
Unfortunately, some business owners inadvertently mis-categorize or estimate their meals or travel expenses. It is always a good idea to save your business meal receipts and to note the name of the client or attendants and the business purpose. For business travel, save your receipts for all costs expended and note the business travel dates, the business purpose, and the name of the event and/or meeting attended. Boarding passes may get lost, we recommend that you create a folder in your email inbox and save the confirmation and/or invoices as soon as you receive it in your email after booking.
Claiming business losses year after year
The IRS will take notice if you are reporting business losses year after year. Some business owners do experience a few bad years and your records can justify this; this is another reason it is very important to save all receipts/invoices. The IRS also knows that some businesses may claim personal expenses as business expenses and this is illegal under the tax codes. The Internal Revenue Service reminds taxpayers to follow appropriate guidelines when determining whether an activity is engaged in for profit, such as a business or investment activity, or is engaged in as a hobby. An activity is presumed for profit if it makes a profit in at least three of the last five tax years, including the current year*.
Prepare for an audit even if it may never happen
The best way to avoid being audited is to keep flawless records. Make sure you report your income and your deductions properly. It is very important that you use the right software and that you consult with professional accountants. At CPA by Choice, we make sure that your business is compliant and we will discuss areas that are questionable to ensure that proper record-keeping is in place at all times. We will remind you of important tax deadlines. We are committed to clearing any red flags, we know how busy you are running your business, please call us/message us and allow us to take care of your business’ accounting needs.
*According to the IRS, or at least two of the last seven years for activities that consist primarily of breeding, showing, training or racing horses.