Three Simple Rules to Stay Off IRS Radar

Robert Wood, Contributor for Forbes writes: If you don’t want to wind up in a tax dispute do everything you can to avoid an audit. No matter how secure you feel in your tax positions, you don’t want the time, expense and aggravation of an audit even if you can substantiate everything. Still, some percentage of tax returns will be examined whether the returns are for income tax, payroll tax, gross receipts, excise, sales and use tax.

Follow these three rules and you’ll reduce your chances of grief from the IRS.

1. Keep Good Records. You might think good records help only if you’re audited. Actually keeping good records can keep you out of trouble in the first place. See Keep Tax Records In The Vault! Most audits are by correspondence. Thus, your deductions might be disallowed unless you produce records substantiating them. To respond quickly and thoroughly, be prepared. See Got A Tax Notice? Here’s What To Do.

2. Respect Those 1099s. Much of what the IRS does is information return matching, the endless correlation of taxpayer identification numbers and payments. Even small mismatches can trigger big problems. There are different Forms 1099 for miscellaneous income (Form 1099-MISC), interest (Form 1099-INT), and many other payments.

You need a system to record and track 1099s. That’s exactly what the IRS does. See Watch Your Mail For 1099s. Although most forms arrive in January, how you handle them year round matters. Don’t just stick them in a drawer when they arrive, look at them.

If you receive an incorrect Form 1099 (as is common), contact the payer that issued it. Explain the error and ask if they have already sent a copy to the IRS. If not, ask them to destroy it and issue a correct one. If so, ask for a “corrected” 1099 (there’s a special box for this). See Care With Forms 1099 Helps Audit-Proof Tax Returns. You want every income item to match up, every claimed deduction or credit to be approved, and every schedule you attach to pass muster.

3. Keep Business and Personal Separate. You may do things with a dual motive like a pleasant lunch with a business colleague, a boondoggle with your best customer or buying a vacation home you also intend as an investment. But these are fertile areas for tax disputes. Your tax life will be easier if you avoid morphing personal into business, including:

• Deducting the cost of your divorce because your business is at risk;
• Deducting a miserable vacation with a client; or
• Claiming your hobby was really for profit.

If possible, avoid these situations. It’s safer to separate your business and personal lives.

Robert W. Wood practices law with Wood LLP, in San Francisco. The author of more than 30 books, including Taxation of Damage Awards & Settlement Payments (4th Ed. 2009 with 2012 Supplement, Tax Institute)