Telling Tips is a series of articles from local experts to help you save money, make better decisions and plan for a better future.
Now that autumn is upon us, and your concentration is upon your upcoming income tax return, you may have wondering how IRS personnel meet new people.
One way is the IRS version of Match.com. Using this approach, IRS computers match W-2s, bank interest, dividends, student interest deductions, alimony, other 1099s, and various other pieces of information that third parties give you and the IRS against your tax return. This game isn’t really fair because the IRS knows the ending. And, if you don’t play the game their way, you lose.
Another way IRS makes new acquaintances is ‘dare or no-dare.’ If you ‘dare’ claim certain deductions, the IRS wants various items of proof. Here are a few of those items:
Charitable Deductions: The IRS compares your deductions with those of all other taxpayers in your income area. If yours are higher, it’s OK to claim them, but you may have to show your receipts. Here are the 2011 averages. And yes, many times the IRS does call the charity to verify the receipt is legit. And yes, it is legal to not claim all of your charitable deductions, but it is not legal to report more income or less business expenses than you actually had.
Home Office Deduction: This is a favorite area of review because so many people get it wrong. This deduction is fine if you use the space in your home regularly and exclusively for business, which means 24/7. On the other hand, it you use it during the day, but it becomes the family TV room at night, you are out of luck. Also, if you work at home for your employer, you must prove that it is for the convenience of your employer, not yourself. If you have the availability of an office at work, this will be a hard deduction to prove. The IRS will begin with a letter from your employer. The deduction is generally based upon the percentage of your home office as it compares to your entire house. If you do qualify, however, it is a nice deduction. To see if you qualify, start your search at IRS.gov.
Travel & Entertainment Expenses: This is another area the IRS ‘flags.’ Receipts are a requirement here. In the travel area, there are at least three sets of tax rules:
- The North American area test
- The foreign travel transportation rule, and
- The daily test for a deductible business day
If your travel is to a temporary assignment or job, meaning lasting for one year or less, the travel expenses, as well as meals and lodging, are deductible. If you are entertaining for business, a letter from your company stating that you are not (and could not be) reimbursed, as well as a statement that it is required to dine clients, along with the dining receipt/diary, showing who you were with, what was discussed, where you entertained, when this took place (date/time), and why you had the meeting. Check out IRS Pub. 463.
Hobby Losses: These are not deductible, even if you think you would like to make a profit. If you have a regular job, and lose money every year at your hobby, you do not get a deduction. Check out the IRS explanation.
Vehicle Expense: For work/business, it is totally allowed, but you must keep a log/diary. If the vehicle is not 100 percent for business, you must keep track of your business mileage, including where you went, the distance, and the name of the client. The IRS will also ask for a letter from your employer to prove you were not reimbursed for all or a part of your expenses.
Note: putting a sign on your car does not mean you have a business vehicle.
Of course, it’s not only deductions that may make you a target of the ‘be-my-friend’ machine. If your business deals in cash, you may be audited. These businesses include house gardeners, taxi drivers, bartenders, painters, hair dressers, as well as contractors, consultants, lawyers, dentists, and income tax preparers.
The bottom line is simple — receipts. Always get a receipt, and keep them safe.
Quip: There is always a lot to be thankful for if you take the time to look. For example: I’m sitting here thinking how nice it is that wrinkles don’t hurt.
Have a good week. One more thing: Happy Birthday Income Tax: October 3, 1913.
Joseph Reisman, of Joseph S. Reisman & Associates, has been serving tax prep and business accounting expertise from his Coney Island Avenue office for more than 25 years. Check out the firm’s website.