Audit-Proofing for Small Businesses (Because “Trust Me, Bro” Isn’t Documentation)
If you’re like most small business owners, an IRS audit is one of your worst nightmares. Fortunately, it doesn’t have to be. It just takes a little prep to ensure that you’re less likely to be audited (though the chances are never 0!). Even if you are audited, you can relax when you have all the proper documentation in place.
The Audit-Proofing Trinity: Earned It, Spent It, Business Purpose
Keep this simple trio in mind and it’s pretty difficult to miss something that would cause the IRS suspicion. But what exactly do these three things mean? Let’s dig into the strategy a bit.
Proof You Earned It
Where did the money come from? Any money in your possession has to be accounted for. That should be pretty simple as long as you stay on top of tracking all income. The moment a customer pays you and that money lands in the bank, it should be recorded somewhere. Whether you use a notepad, spreadsheet, or some sort of accounting software, make sure every penny is accounted for.
This includes:
Invoices/receipts sent
Contracts and purchase orders
Payment processor reports (Stripe, PayPal, Shopify, etc.)
Bank deposits to match each report
1099s or the equivalent, along with platform statements
Make it a habit to go over everything each week to ensure you’ve logged it all.
Proof You Spent It
If you’re planning to claim something, you have to prove it was paid for. Again, record-keeping is essential. You can’t say much if the taxman comes knocking and you’ve got zero proof of any purchases!
Whenever you make a purchase, save the receipt or invoice and the proof of payment. It really helps to keep track of the date, amount, and vendor in your tracking software or spreadsheet.
For less concrete things like travel, you’ll need a mileage log. Don’t just guess at the end of the year, keep track of every mile driven.
Simple rule of thumb? You should be able to prove who/what/when/where/why.
Proof It Was for Business
This is where people tend to mess up. Basically, the IRS doesn’t care if something “kinda helps with business.” If you have things that look to be personal expenses, you have to prove they were actually for business. Keep those notes, people!
Make a business purpose note, just a line detailing what the expense was for and how it connects to revenue. Was this a business dinner where you went over the marketing plan for a client or did you just spend five minutes discussing business with a family member to chalk it up as an expense?
It helps to note who was involved if you are tracking meals and travel or events. This can be checked and corroborated if necessary.
The note can be quite simple, such as “Lunch meeting with editor re: book launch timeline” or “printer used for customer orders, 80% business use.”
Talk to Your Tax Pro!
If this sounds overwhelming, don’t worry! It’s not as terrifying as it might sound. First, if you’re on top of things, the IRS has little reason to audit you. On the off chance they do, you’ll be sitting pretty, with all your ducks in a row.
Need some help getting things under control and preparing for April? Contact Ask Anna Tax today.
