“The Taxpayers Guide to understanding the Importance of Substantiating Business Expense Deduction
• §162 Trade or Business Deductions that are ordinary and necessary in order to carry on the trade of business o Ordinary: common and accepted in the particular business activity o Necessary: Appropriate and helpful to the taxpayer's business · Facts and circumstances surrounding the expense that is paid or incurred should be documented · Deductibility: proper year (incurred vs. paid) · Distinguish operating expenses vs. cost of goods sold vs. capitalized expenditures · Determination of "going into business" vs. "in business" · Current year limitation due to Net Operating Losses (NOLs) passive activity losses (PALs) and §465 at risk
limitations
+ Substantiate all food and entertainment costs as well as vehicle use, gifts, home office deductions; non
compliance for not issuing IRS form 1099-MISC. · Specific Record Keeping rules not generally required but a taxpayer must have a record keeping system which
clearly reports allowable deductible expenses · Allocation of Business vs. Personal use of assets · Electronic records and hard copy books and records require the same type of information necessary to
determine allowable deductions · Supporting documents are required in order to properly substantiate deductions: in order to prove deductions reported on the tax return; the taxpayer should have all invoices, cancelled checks, etc. · Required interrogatories should be answered and all logs should be kept (autos, computers, time records, etc.) · Taxpayers should audit-proof deductions · Substantiate the existence of a business from IRS assessment of §183 hobby loss limitations · Substantiate reasons for the current year deductions vs. capitalization and depreciation and / or amortization · Protect against disallowance of related party transactions · Substantiate "placed in service" dates of fixed and intangible assets · Document proof for the year fixed and intangible assets are disposed of by the business
· Document proof of the deduction for bad debts becoming "wholly worthless"
SUGGESTED MATIERALS
o Publication 535 "Business Expenses" o Publication 334 "Tax Guides for Small Businesses Schedule C" o Publication 463 "Travel, Entertainment, Gifts and Car Expenses" o Publication 583 "Starting a Business and Recordkeeping"
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