With 2014 approaching, you should already be thinking ahead about the return of everyone’s favorite season — tax season! The farther ahead you’re considering your finances, the more likely it is that your tax filing will be smooth and uncomplicated. Thus, no time is better than the present to start preparing. Here are a few tips to protect your business during our favorite time of the year.
Prepare All Your Necessary Documents and Paperwork
Image via Flickr by 401(K) 2012
The very first thing you should start doing is preparing for tax season. It’s not like tax season sneaks up on you or anything, it’s the same time each year. Gather all of the necessary documents a few weeks in advance and finding any documents that you may be missing. The last thing you want to do during tax season is to run around and try to find paperwork at the last second.
Anticipate Red Flags that Cause Audits
Audits are on the rise, so it’s important to protect your business from being audited. Keep annual summaries of income and expenses. Back up your returns with receipts, bank statements, and paid invoices.
It’s important to take notes on anything you bought. No matter what you buy, if you say it’s a business expense, you need to explain exactly why it’s a business expense.
Make your records correlate with each other. If you get audited and have no idea what to do, reach out to an attorney like Tim Broas for help. Make sure to store the records safely. Storing them electronically is extremely safe, and there’s little to no risk of losing them.
Know the Rules for Business Losses
Some people try to reduce their taxes through business losses. Tax professionals have even been encouraging some people to convert their hobbies into a business if they have a high income. The IRS has caught on to this strategy. The Hobby Loss Rule of Thumb is if a business reports a net profit in at least three out of five years, they’re considered to be a for-profit business. If they report a net loss two or more of the five years, it’s presumed to be a not-for-profit hobby.
Newly formed businesses are really struggling with this as it can take quite a while to turn a profit. If you can’t meet the three out of five year rule, there’s still other ways to prove your profit, such as changing your methods of operation in an attempt to improve profitability, proving the activity makes a profit in some years and how much profit it makes, and if you can expect to make a future profit from the appreciation of the assets used in the activity.
If you do get audited to protect your business losses, there will be a thorough review of your income and expenses involved with your business. The IRS will leave no stone unturned and will examine everything. They may also question the validity of the expenses and ask for proof that they’re related to the business.
There have been instances of businesses proving profit even after posting years of losses, but you must keep pristine records. If you can convince the IRS that you’re a small business that aims to turn a profit, you’ll successfully defend your losses.
Using these tips, you should be able to protect yourself from an audit and protect your losses. What other precautions does your business take when tax season is approaching