If I had been better prepared and more informed I certainly would have suffered less mental anguish and hung on to more of my savings.
Learn to protect yourself under these dire conditions, knowing how to reduce your assessed net worth can save you a lot of headaches and bundles of cash.
Franklin D. Roosevelt once remarked that "taxes are, after all, the dues we pay for the privileges of membership of an organized society".
It is, however, a universal truth that no one likes paying tax and most taxpayers will do what they can to reduce their tax burden. Most tax auditors assume everyone cheats on their taxes, even you, if you are chosen for an audit the burden will be on you to prove to them that you don't cheat. That is how the system works.
Tax cheats who get caught are usually careless in their personal and business dealings. They brag to their friends who at any given time can become jealous and report them to the authorities under the protection of anonymity. They post red flags and leave trails easily tracked down by eagle eyed government agents. They lead the auditors to their doors with the most obvious of all clues “under reported income and overstated expenses”.
The other kind of tax cheat tells no one of his dealings, keeps all his receipts in order and tries to be careful with his tax preparation but he can still be selected for a random audit and subjected to many disallowed expenses because of computer technology that uses a form of logarithms and mathematical hypotheses to single out potential individuals for further investigation.
What you should know
First: You don't want to risk it.
Second: You are guilty until you can prove you are innocent.
It's wise to follow all the rules, declare all your income and be aware of what sets off the alarm bells.
Unreported earnings
If you run a cash business and feel you can get away with ignoring some of your earnings think again.
Today's computer systems can match your revenue with your lifestyle. How can someone earning $25,000 a year drive a $50,000 car and live in a prestigious home?
This clue alone is enough to trigger off the alarm bells. Because of the information explosion the government knows all about you, where you live, the cars you drive, the properties you own the trips you take the banks you communicate with and the schools your kids go to and that is only a fraction of what information the government has at its disposal about you. There is no more privacy to speak of.
Overstated expenses
Entertainment deductions and car expenses are scrutinized closely by the examiners.
Are you prepared to respond to all the questions if someone come knocking on your door wanting intelligent answers?
Car expenses must be reasonable within the confines of your profession. What is reasonable? Auditors might accept a 75% deduction if you are a traveling salesman but you will be lucky to get away with 25% if you are a self employed individual in a home operated business. The key is to keep a log book in your car at all times, record your start and stop mileage and have credible documentation to substantiate your claim. You may find this a nuisance and time consuming but it is nothing compared to what happens when you are audited. Good clear documentation is also a sure fire way of stopping an audit in its tracks.
The same procedure serves the entertainment deductions as well. Keep all the receipts and a record of who you entertained and why. Having the proper support papers serves to quell the suspicions of the examiners and put an end to the audit. If they find the least discrepancy they will investigate further to find out what else you have been up to. Honest receipts and full reporting are your guarantees of leniency. Artificially exaggerated or forged receipts and sketchy documentation can get you in a heap of trouble.
Business losses
If you are an employed person who also has a self employed sideline at home that serves solely to reduce your employment taxes you could receive a phone call. Especially if you only become a loser due to deductions that outweigh any earnings you may receive.
Writing off expenses such as utilities, meals and car could be disallowed if you lose money every year. Previous benefits over a three year period will have to be paid back with interest and penalties to boot.
If you are running your own enterprise the tax man will flag your return the first year you report business losses and if you continue to claim losses in the following years you will be a prime candidate for a tax audit which involves a three year period. Pray that they don't make you pay back any benefits you received in consequence. Small amounts each year can reach astronomic proportions when cumulative penalties and interest are calculated. This alone forces many entrepreneurs to declare bankruptcy
