If you lose your tax documentation for a year the IRS has decided to audit (or they were destroyed, the dog ate them, whatever) neither the government nor the tax court will show you any mercy. You are allowed to reconstruct the data from documentation available and the auditor will probably give you some time, but if it is not sufficient be prepared to lose some deductions and pay some tax. I once had a specialty furniture company audited and in a move the accounts receivable was accidently shreaded (the controller was an idiot.) We were able to reconstruct the receivables and deferred customer deposits (the area the auditor wanted to declare $200,000 in income) and save the client about $50,000 in taxes, but we billed the client an additional $9000 that he didn’t have to pay if the records were on hand. Make sure you scan and backup all your tax and audit data to make sure it doesn’t happen to you. Remember the kid whose dog ate his homework usually gets an F.
Brian’s Tax Musings
If you flip houses for profit, be aware you probably are a real estate dealer and not an investor. This means you:1. Treat all buying and selling expenses of houses as ordinary business expenses.2. Treat all proceeds as business income3. Are not subject to the $3000 capital loss deduction rule, but can deduct losses against ordinary income (and losses in excess of income can be carried back of forward as net operating losses).4. Have to pay self employment tax on your net profit.5. Can’t take long term income as capital gains.6. Can’t use the installment method to record income from property sales.7. Can’t take depreciation on property to be flipped.8. Can’t use sec 1031 to defer gain in a like-kind exchange.The key is to know whether being a dealer will be an advantage or a disadvantage. This will take some planning with your tax preparer (me for instance).
Brian’s Tax Musings
Remember if you have an S Corporation that you as owner are also an employee and must pay yourself a reasonable salary. One sure way for the corporate return to get a second look from the IRS is to have nothing on the ‘officer salary’ deduction line on the return. It is wise to always pay yourself some salary out of the coporation and pay payroll taxes. If the IRS looks closely at the return they may determine that much of the profit that isn’t subject to self employment taxes should be wages and subject to payroll taxes. It is always wise to pay all shareholders a reasonable wage out of the S Corp.