|Good record keeping will prevent you from doing this.|
Although our Federal income tax laws are not specific, requiring only that every snow removal business keep “complete and accurate records,” the decision of what records a business needs to keep is extremely important. The question of what records to retain, and for how long, usually begins with a good tax records strategy.
TAXING TAX RECORDS
It makes a great deal of sense to keep a copy of the snow removal operation’s tax returns permanently to help prepare future or amended returns. The IRS suggests that related records be retained until the “period of limitations” expires for that tax return.
The period of limitation is the time period from the filing date until the date which a return can be amended or the IRS legitimately pursue the snow removal business for additional taxes. Typically, the IRS can come after a business for failing to report income for up to 6 years after filing if the amount is greater than 25 percent of the operation’s gross income. If a deduction was claimed for a bad debt or worthless security, the IRS recommends retaining supporting tax records for 7 years.
A business with employees should retain all employment tax records for a minimum of 4 years according to the IRS. Employment tax records include such things as employer identification number, amounts and dates of wage payments and tax deposits as well as the names, addresses, social security numbers, dates of employment and occupations of employees.
If business property is involved, the IRS suggests retaining records until the period of limitations ends from the year the property was disposed of. These records will aid in calculating depreciation deductions and to determine any gain or loss on that property. If the business property involves real estate or a vehicle, the deed or vehicle title should be kept in a safe, secure spot until sold or otherwise disposed of.
WHEN THE IRS WANTS TO KNOW
When it comes to taxes, the most frequent reason an Internal Revenue Service auditor denies a tax deduction claimed by a snow removal or ice management business - or its owner/operator - is not because it is not allowed, but because the amount of the deduction cannot be substantiated. Although the government is reducing the need to keep records of income thanks to a mandate that credit card companies must now report all transactions to merchants - and the IRS - adequate documentation substantiating deductions is still extremely important.
With expenditures, ideally every snow removal contractor should have a canceled check and an invoice marked “paid” for any item purchased. A canceled check without an invoice or other document showing the item purchased could be a problem. Fortunately, as today many checks are not returned by the bank, the IRS will accept check images.
While an invoice is usually required to show what was purchased, statements from a supplier may be substituted -- but only if they show the item. Best advice, save all invoices and don’t assume the IRS will accept a check written without an accompanying invoice.
What about payments to independent contractors? Even for small jobs the snow and ice removal business should have an invoice. What’s more, the independent contractor should receive a Form
While there is no requirement to keep receipts for any expense of less than $75, it is necessary to record all information about the expense; how much, to whom payment was made and what type of expense it was, the date paid, etc. Another good strategy: Keep a record of every deposit made to all bank accounts. Record all money coming in, whether taxable or not. At a minimum, note in the check
THE PERSONAL SIDE OF RECORDS
Although it is common and convenient to use a business check or credit card to purchase personal items, it should be kept in mind that one misclassified expense deduction may increase scrutiny of all business expenses. Above all, avoid checks made out to cash. The larger the amount, the more they should be avoided. If unavoidable, always indicate on the check what the purchase was for. This is one time when an invoice can be critical.
It is not unusual for an employee to purchase office supplies, small equipment, shop supplies, etc. Records are especially critical when it comes to an employee/shareholder paying company expenses out of their own pocket.
If these situations cannot be avoided, the correct procedure is to have the employee file an expense report and attach the documentation. The snow removal business should then cut the employee a check for the amount documented.
Without the expense report the snow removal business can’t take the deduction because it didn’t pay for the item; the employee/owner can’t take the deduction because it is not a valid deduction.
Today if there is no receipt or proof of payment the courts - not the IRS - may allow the deduction based on an estimate. But there has to be some basis on which the court can make an estimate.
RECORDKEEPING IN OUR ELECTRONIC AGE
As more and more snow removal contractors are turning to their computers to keep track of financial matters, the IRS continues to expand programs for electronic filing of tax returns. Taxpayers with assets of $10 million or more at the end of their tax year are required to comply with the retention requirements for “machine sensible records.” A machine sensible record is data in an electronic format intended for use by a computer.
Fortunately, a snow removal business with assets of less than $10 million must comply with the record retention requirements for machine sensible records only in a few rare situations. Unfortunately, keeping electronic records doesn’t relieve taxpayers of their responsibility to retain hardcopy records that are created or received in the ordinary course of business. Hardcopy records may be retained in microfiche or microfilm format. The IRS has also approved scanning to relieve the need to keep original documents.
HOLDING ON TO RECORDS
In general, the rule of thumb is that canceled checks and other documents should be held for 3 years. Technically, it is 3 years from the date the tax return was filed. If the IRS suspects that income was under-reported, they can go back 6 years. If it believes fraud is present, there is no time-limit.
For assets such as autos, equipment, etc., documentation should be retained for at least 3 years after the asset is disposed of. Longer retention periods can apply to employment records. Ideally, using a 7-year holding period for most records should be considered.
Obviously, no record should be disposed of simply because it is no longer needed for tax purposes. Those records should be retained until the contractor checks to see if they must be kept longer for other purposes. Insurance companies and creditors for example, may require some records to be kept longer than the IRS does.
Consulting with an attorney or tax professional can help guide a snow removal business to a legal and tax compliant record keeping policy. To avoid identity theft and to protect sensitive business information, all business records should be disposed of properly or shredded.
register the source of each deposit.
RECORD KEEPING DISASTERS
It is not only the IRS that warns everyone to safeguard themselves against natural disasters by keeping a set of backup records in a safe place. Naturally, the backup should be stored away from the original set of records.
Keeping a backup set of records -- including bank statements, tax returns, insurance policies, etc. -- is far easier today with many financial institutions providing statements and documents electronically and much financial information is readily available on the Internet. Even if records exist only on paper, they can be scanned into an electronic format. With documents in electronic form, every snow contractor can download them to a backup storage device, such as an external hard drive, or burn them to a CD or DVD.
A BENEFICIAL HEADACHE
Records and record keeping can take a variety of forms and shapes. Remember however, records are not only about making the IRS happy. They also play an important role in managing every snow business to profitability and success. How, after all, can any contractor monitor the progress of his or her snow and ice removal business and guide it to increased profits and success?
A snow business that has kept either inadequate or no books or records, the IRS has authority to compute the operation’s income. The methods used by the IRS for reconstructing income vary depending on the facts and circumstances, but are rarely favorable to the errant taxpayer.
Mark Battersby is an Ardmore, Pa.-based financial writer and frequent Snow Magazine contributor.