Biden’s tax proposals include an additional $80 billion in funding for the IRS. Although the goal of this funding is to help the IRS combat tax avoidance among big corporations and the wealthiest Americans, some experts believe that audits of some small businesses will also increase.
New Funding for the IRS
This new funding for the IRS would assist the agency’s enforcement efforts in several ways, such as 1) boosting enforcement staffing, including hiring and training agents dedicated to complex enforcement activities; 2) improving third-party reporting from financial institutions and others; and 3) modernizing the IRS’s technology.
Some critics argue that the plan would result in a greater number of audits of specific small businesses, especially those owned by high-income earners and those that deal primarily in cash.
Audit Red Flags
Given the prospect of increased IRS enforcement activity in the future, now’s a good time for businesses to get their affairs in order. Work with your accounting and tax advisors to be sure your books and records are complete and accurate. Verify that you have the documentation you need to substantiate every deduction or credit you claim on your tax return. Although every business should follow good recordkeeping practices, it’s particularly important for those that exhibit “audit red flags” that may attract the IRS’s attention. For example, watch for:
- High income reported on Schedule C — Profit or Loss from Business (Sole Proprietorship),
- Frequent losses reported on Schedule C (which may lead the IRS to suspect that the activity is a hobby rather than a legitimate business),
- Home office deductions,
- Deductions that are exorbitant or disproportionate to your income,
- Low salaries for S corporation shareholders who work in the business (these shareholders — who are exempt from self-employment taxes — must receive reasonable compensation to ensure they pay their fair share of Social Security and Medicare taxes),
- Higher-than-average deductions for meal and travel expenses,
- Vehicle deductions based on 100% business use, and
- A high volume of cash transactions.
READ MORE: Best Practices for Business Expenses
Document Thoroughly
The existence of one or more of these red flags doesn’t guarantee that your business will be audited — nor does it mean you’re in danger of being hit with additional taxes or penalties if it is. But it does mean that you’ll need to have thorough documentation to support your tax treatment of these items.
At the time of this writing, the future of President Biden’s tax proposals — including increased funding for the IRS — is uncertain. But regardless of the chances that your business will be audited, it’s always a good idea to ensure that your tax practices are beyond reproach. Contact us with any questions you might have about Biden’s tax proposals, documentation or recordkeeping.
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