Deductions are business expenses that reduce the money you have to pay taxes on. Small businesses, especially, depend on utilizing as many deductions as possible to keep more money in their own pockets. When the IRS contacts you about your tax return and you’re not able to produce a complete backup, you can bet that you’re going to be audited.
Documents most people think are receipts, are not receipts
As a bookkeeper, I think I’ve seen it all, and then someone surprises me. Here are common items business owners have incorrectly used as backups to tax deductions.
- credit card statement that recorded the purchase amount
- shipping invoice
- napkin embossed with restaurant name scribbled with information
- spreadsheet with the information typed (no record of the actual receipt)
What is a receipt, really?
When you go to the grocery store and they hand you the long register tape that shows everything you bought, each item with the number of items purchased and the price, the store name, the date of purchase, and the location of the store (usually an address and phone number), this is a receipt. Any deduction you plan to take for your business will need this information. Each receipt will need to answer who, what, when, where, why, and how which translates into the company you paid (who), what you bought in detail (what), the date you bought it or when it occurred (when), the location it was purchased (where), the purpose, which should be handwritten on the receipt by you (why) and what method of payment you used (how).
What do I keep?
The only safeguard is to keep everything. The IRS will expect to see the below documents with the company you paid, amount of your purchase, detail on what was purchased, and proof of payment (meaning that the amount you’re deducting was actually paid by you). Ensure that all payments are made from your business checking account or your business credit card, not a personal one, to prove to the IRS this is a functioning business and not a hobby. Having a credit card statement from your business account proves you spent money but doesn’t prove what you spent money on. When you combine the receipt (digital or paper copy) which proves what you bought, with the credit card statement showing that you paid for it out of the business account, we have a complete backup. Without backup the tax deduction will be denied, plain and simple. The following are just a few items that you should keep as backups:
- Canceled checks
- Receipts
- Cash register tapes
- Account statements
- Credit card receipts and statements
- Bank Statements
- Invoices
- Petty cash slips with receipts of actual purchases
- Logs – answer the same questions as a receipt listed above: who you met/talked to, what the amount paid was, if applicable, where did the meeting or action take place (address), when includes the date/time/location of the meeting or action, the purpose (why), and how includes mileage if you drove, travel expenses, etc.
Get Organized
Let’s say you are starting a business today and you need to buy (online) a small in-expensive piece of equipment as a start-up expense, expenses before the business is up and running. You go to the website, pick it out, and purchase it, to be shipped to your business address. At the end of your transaction, it should provide you with a summary of your order, which is considered the receipt. Ensure it has all of the required information who, what, when, where, why, and how. Print it out right at that moment so you don’t forget to print it later and miss out on that deduction. Make sure that you note what the equipment will be used for by writing this information directly onto the receipt, without covering up any of the other details. It should have been paid for from your business account because expenses made from a personal account are a red ‘flag’ to the IRS. Accordion files are easy to keep files in and can be separated as needed, or binders with tabs can also keep you organized. If manual/paper copies aren’t for you in this digital age, upload your documents into a digital file, which also prevents the ink on cash register tape from becoming illegible, however, it should be a platform with military or bank-grade security to ensure your files won’t be hacked, stolen, or ransomed. If you still want to keep manual hard copies, I recommend photocopying your cash register tape receipts to avoid fading. Digital options include apps, such as Shoeboxed.com, on your smartphone that are easy to use and free or charge a small fee for basic services. Simply snap a picture of the receipt with your phone and upload it to your app. There is no required system of organizing your backup but staying organized is key, so whatever system you choose you must be consistent!
A Great Bookkeeper will be able to help you set up seamless processes for receipts and expenses to be automatically entered into the financials, records to be organized, stored, and kept up-to-date, and documents prepared for tax season, however, you the business owner are responsible for keeping all of your records. If your books are outdated or you have an unqualified person in charge of your financials you’re likely to miss out on tax deductions. Many new business owners think they can learn to be a bookkeeper while trying to run their business. This ends in everything from sloppy financials to embezzlement from their employees. A great bookkeeper will care about you, your business, and will be able to be the trusted adviser you’ve been looking for!
References: IRS.GOV
