When it comes to the IRS or California Franchise Tax Board (FTB) audits, two related areas are common targets: business deductions for taxpayers with a Schedule C business, and Unreimbursed Employee Business Expenses taken on Form 2106.
These areas have been a common target because these areas are definitely subject to abuse by taxpayers, and because taxpayers often have a difficult time substantiating the deductions they took in these areas.
Even taxpayers who only take justifiable deductions can have a difficult time proving it later, but here are some tips that you can use to make future audits go much smoother!
1. Know your company’s reimbursement policy, and use it! Many employees fail to take full advantage of their employer’s reimbursement policy, rationalizing that any amounts they fail to submit for reimbursement will be recaptured as a tax deduction. This is WRONG! The IRS and FTB will ask for a copy of your employer’s reimbursement policy as part of the audit, and any amounts the employee could have had reimbursed will not be allowed as tax deductions.
2. Take good notes! This advice pertains equally to Schedule C and Employees seeking reimbursement, and is particularly relevant to mileage and meal/entertainment expenses.
- Mileage– there are a lot of smartphone apps out there designed to replace those old-fashioned mileage logs. These can help you keep good records by automatically noting any drives, and prompting you daily to classify the drives as personal, work related, or commutes. Remember that your daily commute to work is generally not deductible. Do some research to find out which one will work best for your purposes.
- Meals and Entertainment– to be able to meet the IRS and FTB standards, it is necessary that the taxpayer be able to not only prove the amount, but also list the person or persons that was fed or entertained, as well as the business purpose of the meal or entertainment. Some agents are more lax about this last requirement, but some will never accept non-contemporaneous annotations of business purpose and who was entertained.
I recommend to all my clients that they immediately take a picture of the receipt on their smartphones, and email it to themselves with a small description of the business purpose and mention who was entertained or fed. Be sure to use a similar subject line in all such emails, so that you can easily find these documents using the same search term. This simple advice can cut down on the number of receipts that need to be saved, and, in the event of the loss or destruction of the original receipts, the documents can be readily retrieved.
Never forget that the State tax agencies, like the Franchise Tax Board, and the IRS share information. That means that if the FTB or the IRS audit you, and any items of tax are changed, you are virtually guaranteed to have the other agency try to make the same change; this means that making sure you properly document your deductions now will save you twice the headache down the line.
Taking these easy steps to protect yourself in the here-and-now can potentially save you thousands of dollars down the road in an audit.
If you do find yourself facing and IRS or FTB audit, or proposed assessment, call the attorneys at Cardin and Company, A.P.C. today. Our office knows the law, and will go to bat for you!