Irs Identifies Key Audit Areas For Sole Proprietor Llc's

Small business owners operating as single member LLC's have consistently been the target of IRS audits

. They file their business income and expenses on Schedule C of their personal income tax returns. The individual business owners, often called "solopreneurs", have a big, fat bull's eye on their backs when it comes to tax compliance. Why?

The IRS has determined that small business owners filing schedule C have the most likelihood to be underreporting their income or overstating their expenses. This information is based on research done by the National Research Program (NRP), the arm of the IRS that collects data to measure taxpayer compliance.

The IRS has determined the following areas are where most of the "cheating" occurs. If this sounds like you, it's time to stiffen up your record-keeping and documentation for 2010 in order to minimize the downside if you are audited by the IRS.

The primary audit areas are:

1. Income - IRS suspects are many small business owners are under reporting their income, not reporting cash income, and/or not properly reporting income earned from barters and cancelled debts.

2. Car & Truck Expenses - IRS suspects that many small business owners are overstating their expenses by either not reducing their costs by their personal usage or by overstating the number of business miles actually travelled every year.

3. Travel & Entertainment - IRS suspects that small business owners routinely charge personal travel and meals against their business. Only ordinary and necessary business related expenses for travel and entertainment are deductible.

4. Rents - IRS suspects that business owners that own buildings that are being rented from them by their business are overcharging their business for rent in order to avoid self employment taxes. Rents must be "reasonable" and reflect current market rents for the area.

5. Sham Businesses - These are write-offs by individuals who really are not operating a business but are trying to write off the expenses of their hobbies against their other earned income. Be sure you are operating your business like a business if you expect to get the write-offs that are available to a business.

6. Independent Contractors - the IRS suspects that small business owners are treating employees as independent contractors to avoid the payroll taxes associated with employees. If you have independent contractors that you are paying, be sure that you are in compliance with the rules that differentiate employees from independent contractors.

There are definitely steps you can take to minimize the risks of being audited in these areas. Proper documentation of deductions is the key. For example, proper receipts, business mileage logs, and independent contractor agreements play a big role as to whether the IRS allows you to keep your deductions during the audit. Another strategy would be to select a different entity to run your business such as a corporation, S corporation or partnership. The proper entity selection is based on your unique circumstance and should be discussed with your tax advisor.

by: Theodore Lanzaro

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