1. Normally, tax records should be kept for three years.
2. Some documents — such as records relating to a home purchase or sale, stock transactions, IRA and business or rental property — should be kept longer.
3. In most cases, the IRS does not require you to keep records in any special manner. Generally speaking, however, you should keep any and all documents that may have an impact on your federal tax return.
4. Records you should keep include bills, credit card and other receipts, invoices, mileage logs, canceled, imaged or substitute checks, proofs of payment, and any other records to support deductions or credits you claim on your return.
5. For more information on what kinds of records to keep, see IRS Publication 552, Recordkeeping for Individuals, which is available at IRS.gov or by calling 800-TAX-FORM (800-829-3676).

Links: Publication 552, Recordkeeping for Individuals ( PDF 61K )

Taxable gifts: Gift certificates (“cash in kind”) are wages subject to FIT, FITW, FICA, and FUTA, even for a de minimis item. For example, a gift certificate for a turkey is taxable, even though giving a turkey as a gift is not. Cash gifts of any amount are wages subject to all taxes and withholding. [26 CFR 1.132-6(e); TAM 200437030]

Biggest mistake: assuming that not reporting such purchases eliminates the problem. States now monitor large out-of-state sales and may notify the buyer’s state, which can then track down the buyer. Also: Customs transmits declaration statement data to state tax agencies, enabling them to track overseas purchases.

Best bet: Pay the use tax on inter-state purchases. Amounts are not usually large—unless failure to pay results in interest and penalties.

But your state revenue department will be going after even the most honest, tax-paying businesses for more revenue by selecting you for a state sales and use tax audit.

Here’s what you should do:

“Your company has been selected . . . .”

You will receive a phone call or letter announcing the audit and, generally, the period being audited and which books and records to have available (you may be asked for more later on). Check the period being audited against your state’s statute of limitations on how far back an audit can go.

Before your company chooses an audit date, make sure a knowledgeable accounting professional can be present to explain exactly how the returns were prepared and the source of reported amounts. Agencies prefer to have the audit at your office so they can see your operation. If an outside CPA prepared the sales tax returns under audit, arrange to have the audit at the CPA’s office at the same time that you choose the audit date. After choosing the date and place, ask for a letter verifying both. Request that you be called if anything is changed.

Why would they want that?

Most firms are shocked at the number of books, records and support documents requested in an audit. Excluding variations by tax jurisdiction, the most commonly required items are:

• The general ledger, all journals (especially the sales journal) and pertinent schedules—i.e., the books. These are used to determine total sales and how your business works.
• Prior year income tax returns—federal and/or state. The auditor compares sales reported on the income tax returns with sales reported on the sales tax returns. Your company may not want to share its income tax returns with outsiders, but these can save a lot of time verifying reported data.
• Original documents that support amounts on the books for the audit. These include:

— sales invoices and/or contracts;

— customer purchase orders;

— vendor invoices;

— purchase requisitions and/or orders; and

— any other items used to compile amounts.

If any of these records are hard to produce—e.g., lost, destroyed or stored off-site—you must tell the auditor when first contacted. Auditors usually try to work with a firm to the extent the law allows.

If other items are requested, ask why they are needed and how they relate to a particular tax problem. Most auditors willingly explain.

Although not all items will be reviewed, have them available. Purchase data are usually needed for use taxes (these discourage customers from buying out of state to avoid sales tax), which most states have. Use taxes generally apply to fixed assets and other items not physically incorporated into products resold.

Sales claimed exempt as resales

Most states require documents to support sales claimed exempt as resales, such as a resale card or exemption certificate from the customer. Find out which documents your particular state requires, and have them ready. The auditor will probably sample these documents with block tests (selected quarters, weeks, days, etc.), statistical sampling or spot tests of items throughout the audit period.

Even one missing document can multiply your firm’s liability if an auditor projects it into a percentage.

Example: SellCo has 100 exempt sales in the audit period and has documents for all but one. A random sample of 10 exempt sales picks up the one missing certificate. The auditor projects this sample to “10% of exempt sales are undocumented and therefore disallowed.”

Result: SellCo’s tax liability (plus interest and penalties) is many times higher than its actual liability.

The audit

Have the auditor met by someone who knows all aspects of the business. Ask about audit procedures, time involved, sales tax law and agency policies.

If your facility is large, start with a tour. Describe operations, accounting methods and procedures and where records are kept. Introduce key accounting and management personnel. After the tour, ask for an audit plan: What areas will be verified? Are all items included or only random samples?

Sampling procedures

If random samples will be used, ask:

• From what base are samples drawn—all sales invoices for the audit period? one quarter of the audit period? one month of the audit period?
• What is the sample size?
• How will sample items be selected?

Many post-audit disagreements are about sampling procedures, so ask why a particular method is being used. Feel free to suggest a method and why you think it is best. One firm saved time by explaining to the auditor that support for exempt sales was in its contracts rather than invoices. The auditor sampled contracts instead of wasting time on invoices and then asking for support.

Most state agencies inform you of their findings as the audit progresses. But just in case it is not your state’s policy to do this, ask to be updated, and to be alerted to any problems that arise. Many problems can be explained on the spot.

The audit findings

If your firm owes additional tax, you will usually receive copies of the auditor’s workpapers, a summary of amounts owed and an explanation of the auditor’s findings. If you do not receive workpapers, ask for them.

If you disagree with the audit findings, ask for a copy of the appropriate section of the law.

If you cannot settle the disagreement, you can often reduce an assessment substantially if you take the time. Ask how the liability might be reduced, such as obtaining exemption certificates from customers who did not provide them. Set a defined time period for action with the auditor. Unclear deadlines create problems.

Appeals

Most agencies have pamphlets that explain the appeals procedure. Follow these procedures to the letter. If a step is unclear, ask the agency for a detailed explanation.

An appeal is usually time consuming, and interest may accrue in the meantime. You can pay any or all of the liability to avoid interest, but of course your firm then loses interest it would have earned on the amount paid. Such payment is not an admission of guilt, but simply a way to avoid paying interest if the appeal is lost. If the firm pays and then wins, it applies for a refund.

Returned checks. When the bank notifies you that it is returning a customer’s check for NSF (not sufficient funds), debit the customer’s account immediately—even if you plan to redeposit the check the same day. For good internal controls, instruct your bank to address all returned checks to someone other than you—possibly the owner or a senior manager. This can protect you if an employee tries to use fictitious checks to cover temporary shortages.

Postdated checks. If a customer gives you postdated checks, treat them as a note receivable. In other words, debit it to Notes Receivable, not to Cash. On the date written on the check, deposit it to your firm’s account, debiting Cash and crediting Notes Receivable.

Solution: Tell employees that you are not required to post the new W-4 until the first payroll period ending on or after the 30th day from the date the new W-4 was submitted (see IRS Circular E). This is the most time that the law allows.

Example: Joe is paid on the 15th and 30th of each month. On September 10, he gives you a new W-4. The September 10th withholding changes must be applied to his paycheck of October 15, the first payroll period following September 30.

1. Worker classification. You cannot avoid overtime pay simply by paying employees a salary and classifying them “exempt.” To avoid misclassification, know what jobs are exempt (regardless of whether they are salaried or paid by the hour), then review job descriptions and how each job is actually performed.

2. Docking pay. An exempt worker docked for a partial-day’s absence may lose his/her exempt status, costing you retroactive overtime pay, unless the docking is connected to an FMLA-related leave.

3. Voluntary or unauthorized work. Nonexempt employees must be paid for time worked, voluntary or not. Even if your policy requires that a manager approve paid overtime, your firm must still pay at least 1½ x the employee’s hourly rate for each hour worked over 40 hours in the workweek.

4. Calculating overtime pay. FLSA requires that overtime pay be based on the employee’s regular rate of pay, which is often higher than the base rate because it includes nondiscretionary bonuses and other payments.

Example: Nondiscretionary bonuses are those required under a contract, agreement or promise, express or implied. These include bonuses for production, work quality or to get someone to take or stay on a job and bonuses that employees have come to expect (other than holiday bonuses). A nondiscretionary bonus given to hourly employees must be added to their gross pay in the week it is earned and must be included when calculating their pay for overtime purposes. [29 CFR 7788.209]

Illustration: Marina’s pay rate is $9/hr. plus production bonuses. One week she works 43 hours and earns a $27 bonus.

Marina’s regular pay: $387 for the week ($9/hr. x 43 hours) + $27 bonus = $414 straight-time pay.

Marina’s overtime pay: $414 earned for the week (including the nondiscretionary bonus) ÷ 43 hours worked = $9.63 regular rate x 50% premium rate = $4.82 x 3 hours overtime = $14.46 premium pay.

Marina’s gross pay: $414 straight time pay + $14.46 premium pay = $428.46 gross pay for the week.

Copier (new)                                Debit 25,000
Accumulated Depreciation   Debit 12,000
Loss on Trade-In                       Debit   5,000

Copier (old)                                             Credit    20,000
Cash                                                            Credit    22,000*

* $25,000 for new copier – $3,000 trade-in allowance for old copier = $22,000 cash required

The new copier is recorded at list price. The cost of the old copier and its related, accumulated depreciation is removed from the books, and the loss is recorded.

Although the downturn has changed normal payment patterns, when you see any of these signs, management would be well advised to act before it’s too late.

1. Loss of contact. Defined as two broken promises to pay. Accept one promise. The second time, ask in a direct, friendly way if this isn’t the second promise, why it’s late and exactly when you’ll be paid. Other loss of contact: NSF checks, never in, no answer, on hold too long.

2. Abrupt personnel changes. Your contact leaves. Nonpayment is blamed on personnel shifts. Always assume the worst. Say: “Let me talk to your superior or whoever pays the bills.” (It may be the boss.) Pros call daily to get the right person. If they promise to call back, set a firm schedule. No call is loss of contact.

3. Any banking change. If nonpayment is blamed on changing banks, ask for the name of the bank and bank officer. (Refusal is a red flag.) Call the bank: “I’m confirming that _____ opened an account.” Pros also ask if it’s “a satisfactory situation” (bank may have denied financing), and what banking business is being done.

4. Unusual disputes (stalls). At 30 days: “The check is in the mail.” At 60 days: “Wasn’t that the shipment that. . .?” Probe and question. Genuine complaints are usually prompt and detailed (invoice numbers, etc.). The vaguer a complaint, the more suspicious it is. Ask: “Why haven’t I had something on this in writing?”

5. Intimidation. Debtors sensing a non-pro calling may be rude to deter future calls. Ignore it. Stick to the business at hand: nonpayment. Keep probing. “Will you pay? when? etc.” Try humor (“Get up on the wrong side of the bed?”). If it fails, the intimidation is deliberate. Don’t be afraid to report intimidation to management. These cases end up with collectors (bosses hate intimidation, too).

6. Change in payment pattern, especially one following an earlier change when the recession began. For example, a regular 45-day payer starts paying in 70 days and only after two phone calls. Act now or the next check will come in 120 days. Say: “You’ve been great about paying, always on time. Now, 45-day payments come in 70 days. Where are we going?” If there’s no good reason (e.g., a temporary problem), it’s a red flag.

What to do when it’s already too late

Too often, management makes unrealistic demands on debtors who can’t possibly pay (“We want it all now“). The debtor then avoids talking to you at all. Why lose money, and possibly a good customer, due to a customer’s temporary, unexpected reversal?

The solution: Focus on your cash flow, not the customer’s debt, regardless of whether it is $1,000 or $10,000, by setting up a realistic payment schedule as follows:

1. Suggest monthly payments. “You owe $750. How short are you of paying the balance?” It’s hard for people to say they’re short the full amount. Suggest monthly payments and ask how much they can pay. If the figure is too low, such as $20 a month, take charge of the conversation.

2. Suggest a payback schedule. “I can put you on monthly payments, but the maximum is 7-8 months at $100 a month.” Be ready for resistance: Have a counter-offer of, say, $65 a month for a year. You must charge interest (use rates charged by local banks but check legal limitations). People pay back debts accruing interest faster than no-interest debts.

3. Get a note and a partial payment. On $750, get a downpayment of 10% ($75). By getting a payment right away (when they come in to sign the note) you will have won half the battle. The other half: Get the first few payments on time. Once you have a note and several payments, the rest will come. On a large debt,: say, $10,000, consider a balloon payment. Accept $200 a month for 18 months (includes $1,600 for interest) then a large (“balloon”) payment of $8,000+ in the last month. If, after 18 months, they can’t make the $8,000 payment, renegotiate and extend the term. You get at least some cash flow instead of none in the meantime.

This information was given by Attorney Donald B. Kramer, J.D., president, Kramer & Frank, P.C., St. Louis, MO, a 23-attorney collections law firm, and author of Mastering Collections (AIPB, 2009).

Most owners think they are “insured.” But it is coverage a firm does not have that can put it out of business. Check this list from Gaebler Ventures, a venture capital firm:

For retirees born in 1941, full retirement age is 65 and 8 months; in 1942, 65 and 10 months, gradually increasing to 67 for those born in 1960 and later.

Age 50. Benefits start for a disabled surviving spouse.

Age 60. Benefits start for a nondisabled surviving spouse.

Age 62. Benefits start based on the employee’s, spouse’s or former spouse’s earnings (if the former spouse is still alive).

Full Retirement age reached in 2009. Employees born in 1937 or earlier receive full benefits at age 65. There is no limit on earnings and no reduction in benefits for those at FR age.

Full Retirement age reached before 2009. Employees born in 1940 or earlier receive full benefits at age 65. There is no limit on earnings and no reduction in benefits.

Full Retirement age reached after 2009. Recipients can earn $14,160 in 2009 before losing $1 in benefits for each $2 earned.

Important: Just earning 40 credits (formerly “quarters of coverage”) does not make individuals eligible for the maximum Social Security benefit. It simply makes them eligible for retirement benefits at a certain age. Credits are unrelated to the amount of the benefits.

Social Security benefits are based on average earnings over 35 years of work-not just on the last 5 years, as many people think. An adjustment is made to account for changes in average wages since the year the earnings were received. SSA then calculates average monthly adjusted earnings over the 35 years when the worker earned the most money.

Employees can obtain their Social Security earnings by calling 800-772-1213, by visiting an SSA office, or by visiting www.socialsecurity.gov/mystatement.

Reminder: Withhold Social Security taxes on all wages regardless of age or Social Security benefits status.