|
Blaze
your tax path with documentation
Feb. 28, 2001 - Everyone
lives in fear of being audited by the IRS, but few know just how the IRS picks
its targets.
Well,
Millian does. You have a greater chance of being audited if one or some of your
deductions raises a red flag and catches the attention of the IRS’ computers.
“The big
red flag is when you fall out of the normal range of other people in your same
occupation,” she says. “And that usually happens when people try and push it
too far and deduct expenses that aren’t really allowable.”
|
|
How does the
IRS determine what is normal? Well, the ranges change every year, based on the
average expenditures and deductions of people of the same profession as you. The
problem, Millian says, is that the IRS doesn’t publish it’s numbers showing
the ranges in a very timely fashion.
“They just
this month published the ranges from 1998 for medical, charitable, taxes and
miscellaneous deductions,” she says. “Most people that prepare their taxes
use these numbers to determine the normal range, but the numbers are three years
old.
The IRS is
comparing you to everyone in the year 2000, not according to those
three-year-old numbers.”
Of course,
if it’s a legitimate deduction, Millian says you should still take it.
“Just make
sure you support the deduction with documentation. For instance, if one year,
you have an unusually high amount of non-cash charitable contributions, I would
attach the receipts and a listing of the items to the actual tax return,” she
says.
“The
reason is, if you fall out of the range and your return is flagged for an audit
because of that one item, you’ve got the documentation on the return and they
won’t take it any further.”
If you
don’t attach the paperwork, though, the IRS will audit you on the one item and
on any number of addition items on the return.
So therein
lies the solution – record keeping is key – not only if you’re a
corporation but especially if you’re self employed and file a Schedule C with
your return.
|
|
Raising the
red flag |
|
Most
self-employed people get audited because they’ve tried to deduct personal
expenses on their Schedule C as a work expense. “You can’t just deduct any
expense you want,” Millian says. “There are the areas where people tend to
abuse, so that’s where the IRS looks closest. Therefore they’ve set up very
specific guidelines you have to follow.”
Gifts
If you buy
gifts for your clients, most people think you can deduct the whole expenditure.
Not true you can only deduct the first $25 you spend per year per client. “If
you wanted to give someone a turkey at Thanksgiving, but you already gave them a
ham at Easter, you are limited in how much you can deduct.”
Vehicle expenses
Many people
try to write off their personal use of their car as a business expense –
commuting mileage for example. “Commuting is the mileage you drive when you
leave your home and go to your first appoint of the day. Commuting is considered
personal and you can’t count that mileage as an expense.”
Computers & cell phones
“These are
the big ones,” Millian says, “because they lend themselves to both personal
and business use.” Even if you work for someone you can deduct part of your
home computer and cell phone costa if you use them for work. “But you’ve got
to keep a log of when and how long you use the item for work. Then at the end of
the year, you can determine the percentage of time its used for work based on
your log. Then you can deduct that percentage of the cost of the item.”
|
|
|
“If you
file a Schedule C, record-keeping is the number one item to pay attention to
because a lot of people don’t keep receipts and documents.
“I always
say the first rule of record keeping is: ‘If you don’t keep the record, you
don’t get the deduction.” It’s that simple.
If you try
to estimate your expenses and deduct them, you could easily push your numbers up
out of the normal range.
“And
that’s when you get into trouble,” she says. If you get flagged, get audited
and the IRS disallows your deductions, you’ll have to come up with the
resulting taxes due and interest and there will be penalties as well.
“If the
amount is over $5,000, it automatically becomes an accuracy-related penalty of
20 percent and can even result in fraud or criminal sanctions if you do not have
a reasonable basis for the tax treatment you used.”
By
documenting your activities and expenses all year long, it’s easy to keep your
personal and professional finances separate.
“If
you’re unsure about what’s allowed and what’s not, call a professional who
can help,” Millian says. “Or brave the IRS booklets and hope you read it
right.”
Millian M. Toms
is a Royal Oak-based CPA and business advisor. She is also an active
member of the community including The Optimists and Greater Royal
Oak Chamber of Commerce.
|
