Having to do paperwork every month is a pain for most entrepreneurs, and when tax time comes around many feels overwhelmed and stressed. However, this is generally nothing compared to the time, energy, and anxiety that arise from having to face a business tax audit.
If you want to avoid this situation, do everything you can to minimize the chances of having to go through this process. There’s no surefire way to guarantee you’ll never get audited, but here’s how you can reduce the risk.
Keep Detailed Records
Help yourself out by being vigilant about record keeping. Tracking exactly what you spend and where, and the income your business gets and how, reduces the likelihood that you miss information when preparing your tax records. It also stops you from having to guess what transactions relate to months later, when your memory is fuzzy.
Keep and organize all receipts relevant to your venture so you won’t have to go hunting for them if you get asked questions by your accountant or the tax office. Creating accurate records will help you produce a more accurate tax return, which in turn reduces the chances you’ll end up audited.
Be Accurate with Numbers
Similarly, take your time when inputting numbers into your accounting system and tax documents. Be sure you put in the correct figures rather than guessing what amounts transactions might have been. Also, if you don’t want an audit, never round up numbers, as this is a big giveaway to the tax office, especially when they see a bunch of deductions one after another ending in zeroes. In reality, not that many purchases end up sitting at a nice round figure.
Check the numbers you input into various fields, including those you calculate when sorting out your monthly accounts and your annual tax records. Have someone else check your workings after you complete them to discover simple human errors.
It helps to use tech tools to your advantage, too. For example, digital accounting systems can automatically calculate figures, code regular income and expense transactions to the relevant person or business, and streamline processes so there’s less double-handling and fewer mistakes over time.
Consider setting up payments to your regular creditors to happen online via a virtual card. These programs feature automatic reconciliations and mean there’s no more worrying about downloading or uploading files in your bank portals, as the payment process integrates with your bank. Such transactions work domestically and internationally and again help to reduce the likelihood of manual entry errors occurring.
Give Clear Explanations for Transactions
Another way to minimize the chances of a small business tax audit is to provide clear explanations in your tax return of transactions, especially deductions. Steer clear of vague business expense categories such as “miscellaneous,” which can be a red flag to the Internal Revenue Service (IRS).
If you need to claim a somewhat unusual deduction, check with your accountant or another advisor on the best way to categorize it. You may also find it worthwhile providing a more in-depth explanation or additional documentation to make things clear for an IRS reviewer and reduce the chances that an audit gets triggered.
File Tax Paperwork on Time
Do whatever you must to file your tax documents in time for the initial deadline, even if you know you owe money and aren’t sure how to pay it. The same goes even if you don’t owe any money. The IRS assumes the worse when tax returns aren’t lodged by deadline, so they’re more likely to suggest an audit. Keep in mind that you can often file for an extension, so talk to your advisor or the IRS directly to find out more about this.
Try to Stay Within Typical Deduction Ranges
When you input your deductions, be careful of going too over the top with them. Try to learn about what industry averages and common expenses are for your type of business. The IRS looks for abnormal expense levels compared to income, so it’s safer to stay within a typical range than standing out for highly irregular deduction levels.
These are some of the best ways to reduce the chances that you have to face a small business tax audit. Some other tips are to keep business and personal transactions separate, be honest about mistakes you discover after filing your tax return, and understand home office tax rules. Plus, ensure your business is a true venture that makes at least some profit after a time. If you keep claiming losses year after year, the IRS may assume you have a hobby rather than a business and are trying to claim expenses where you shouldn’t. Consider all these factors as you prepare monthly accounts and annual tax documents, and you’re much less likely to get audited.