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Small Business IRS Audit Mistakes

In late 2020, the IRS announced that it will increase tax audits of small businesses by 50 percent in 2021. Here are several mistakes to avoid if you do get audited by Uncle Sam.

  • Mistake: Missing income. A long history of investigating has led IRS auditors to focus on under-reported income. If you’re a business that handles cash, expect greater scrutiny from the IRS. The same is true if you generate miscellaneous income that’s reported to the IRS on 1099 forms. Be proactive by tracking and documenting all income from whatever source. Invoices, sales receipts, profit and loss statements, bank records—all can be used to substantiate income amounts.
  • Mistake: Higher than normal business losses. Some small businesses struggle in the early years before becoming profitable. If your company’s bottom line never improves, the IRS may view your enterprise as a hobby and subsequently disallow certain deductions. As a general rule, you must earn a profit in three of the past five years to be considered a legitimate business.
  • Mistake: Deductions lacking substantiation. Do you really use your home office exclusively for business? Does your company earn only $50,000 a year but claim charitable donations of $10,000? Do you write off auto expenses for your only car? The key to satisfying auditors is having clear and unequivocal documentation. They want source documents such as mileage logs that match the amount claimed on your tax return and clearly show a business purpose. If you can’t locate a specific record, look for alternative ways to support your tax return filings. In some cases, a vendor or landlord might have copies of pertinent records.
  • Mistake: No expense reports. If you use your credit card for business, create an expense report with account numbers and attach it to each statement. Then attach copies of the bills that support the charges. This is an easy place to blend in personal expenses with business expenses and auditors know it.
  • Mistake: No separate books, bank accounts or statements. Never run personal expenses through business accounts and vise versa. Have separate bank accounts and credit cards. A sure sign of asking for trouble is not keeping the business separate from personal accounts and activities.
  • Mistake: Treat the auditor as an enemy. Auditors have a job to do, and it’s in your best interest to make their task as painless as possible. Try to maintain an attitude of professional courtesy. If you’re called to their office, show up on time and dress professionally. If they come to your place of business, instruct staff to answer questions honestly and completely.

Please call if you either need help preparing for an upcoming IRS audit or would like to know how to audit-proof your financial records.

Common Tax Mistakes When Selling a Home

With home sales booming throughout much of the country, you may decide that now’s the right time to put your abode on the market. If you do put your primary residence up for sale, try to steer clear of the following mistakes.

  • Not qualifying for the home sale exclusion. If you’ve owned and used your home as your principal residence at least two out of the last five years, you can can exclude from your taxable income the first $250,000 of gain if you’re single and $500,000 if you’re married.What you can do: Consider a delay of selling your home until you meet the 2-out-of-5 year threshold. If you can’t qualify for a full exclusion, you may qualify for a partial exclusion if your sale results from an employment change, a need for medical care or other IRS-approved circumstances.
  • Forgetting to deduct points. If you have points from your current mortgage that you haven’t deducted on a previous tax return, include the balance of these points on your next tax return. Too many taxpayers forget to do this and lose thousands in deductions.What you can do: Review your loan documents before selling your property. Identify all costs, including points, that are included in the loan. Save the document with your tax records to ensure the deduction is not forgotten.
  • Not double checking your settlement statement. Closely review the closing statement. It is easy to assume all the numbers are correct and the math is done right. Often this is not the case! And a mistake here could be costly.What you can do: Review the closing document multiple times. Have your Realtor and closing agent explain items you don’t understand. Pay special attention to property taxes. The property tax bill will be allocated between the seller and the buyer. Only pay the share of the bill that covers the time period when you’re the owner.

Selling a home is full of tax implications. Since selling a home is not an everyday occurrence, it is easy to make a mistake. So if you need help with these or any other tax questions surrounding the sale of your house, please call…before you sell!

Manage Your Business’s Unemployment Taxes

As a business owner, you’re required to pay three different types of payroll taxes.

  1. FICA (Federal Insurance Contributions Act) is the tax used to fund Social Security and Medicare programs.
  2. FUTA (Federal Unemployment Tax Act). Employers pay this federal tax to provide unemployment benefits to laid-off workers.
  3. SUTA (State Unemployment Tax Act). State governments also collect taxes known as SUTA that finance each state’s unemployment insurance fund.

While FICA may be easy to understand, unemployment tax calculations are easily misunderstood.

How FUTA and SUTA taxes are calculated

The FUTA calculation. The federal unemployment tax rate is 6% on the first $7,000 of each employee’s income, regardless of where the company does business. In addition, employers who pay their state’s SUTA taxes on time can receive a maximum credit of 5.4%, reducing the FUTA rate to 0.6%. Certain employee benefits—employer contributions to health plans, pensions, and group life insurance premiums, for example—are also excluded from the calculation.

SUTA taxes are more complicated. Tax rates and taxable thresholds (known as wage bases) vary from state to state, industry to industry, and business to business. In Oregon, for example, the first $43,800 of an employee’s salary is taxed under SUTA. In Arkansas, that threshold is $10,000. In Oregon, a new employer is taxed at a rate of 2.6%, but more established businesses in that state have rates ranging from 1.2% to 5.4%. Other factors affecting SUTA tax liability include the firm’s history of on-time payments to the state insurance fund and the number of former employees receiving unemployment benefits.

How to reduce your SUTA and FUTA tax bills

  • Hire cautiously. If you employ someone who doesn’t work out, you could end up with additional unemployment claims and a higher SUTA tax rate.
  • Train vigorously. To increase productivity and reduce turnover, target your investment in continuing education. Keep employees happy and loyal. Again, high turnover leads to unemployment claims, which leads to bigger SUTA tax bills.
  • Terminate judiciously. If you must reduce personnel, consider offering severance or outplacement benefits to terminated employees. The sooner they return to the job market, the fewer the unemployment claims that will be factored into your company’s SUTA tax calculation.
  • Dispute carefully. Take the time to verify the accuracy of unemployment claims, as bogus representations by former workers can drive up your SUTA taxes. If an employee was fired for gross misconduct and thus disqualifying himself or herself from collecting unemployment, have strong documentation to support the termination.
  • Pay regularly. Under federal guidelines, employers who make their SUTA contributions on time can reduce the amount of FUTA taxes by up to 90%.

As always, should you have any questions or concerns regarding your tax situation please feel free to call.