When you are doing your taxes, you probably have a folder of receipts or a digital drive of scanned copies, a log for travel mileage, and other ways to prove your expenses. Most tax payers assume receipts and a log is enough to prove your expenses, but often, the issue is more complicated. To help you get your deductions and minimize your tax burden and risk of being audited, our CPAs in Raleigh are sharing what kind of records you should be keeping.
Understanding What Qualifies as a Business Deduction
It’s important to touch on exactly what kind of expenses you can claim when you are self-employed. This is especially important in 2020 as, due to COVID-19, many of us are incurring expenses due to working at home that we are unaccustomed to. In general, these fall under Section 162 of the U.S. tax code, which includes “ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business.” This can include:
- Cell phone or internet bills;
- Parking, tolls, and other fees;
- Travel to conferences, meetings, or work-related events (but not travel from home to the office);
- Purchasing work-related supplies like a printer and ink or a web camera for conference calls;
Business Expense Deductions Eliminated for Employees
We do want to note that many business deductions, like supplies, internet, and other expenses are no longer available to employees. The 2017 tax reform law eliminated the itemized deduction for all but self-employed individuals.
Substantiation of a Business Expense
Once you pay for a business expense, all you need to do is scan the receipt into your tax folder on your computer, and you’re good, right? Not necessarily. You also bear the burden of proof that you incurred a deductible expense, it was solely for work use, and you can prove the specific amount of the cost.
Let’s use the web camera as the example, again. This is actually pretty easy to prove as a business expense. Because of COVID-19, your work is done primarily online and any meetings are virtual. You needed it to do your job and you are self employed. Plus, when you ordered it from Amazon, you have proof of purchase and cost.
What Is Substantiation?
However, many expenses aren’t that clear cut and substantiation is necessary. This means an employee must have clear, in-depth evidence of the “amount, time, place, and business purpose of the expense within a reasonable period of time after they are paid or incurred.”
Let’s use parking costs as an example. You have free parking at home and at work, but you often have to meet with clients where you have to rely on parking garages or metered parking. Those costs add up quickly, and you can deduct them, but you have to substantiate them. It’s simply not enough to scan the receipt into your tax document file because the IRS doesn’t know if that parking fee was for a client lunch meeting or for you to park while you had lunch with your friends. Keeping in-depth documentation at the time you paid the cost for these types of expenses to include the date, who you are meeting with and why, and where you are located will help make your case that it’s a business expense.
Proving Expenses When Working from Home
While we’ve discussed home office tax deductions at length, we did want to take the opportunity to touch costs associated with working from home, not necessarily the structural deductions that come with the office deduction. Common expenses include:
- Cell phone
- Postage meter
If you are using these things solely for your business, like you have a phone that is 100 percent dedicated to the business, you can use the entire cost as a deduction. On the other hand, if you use your internet for business part of the time, but your family is also using it to stream movies and surf the internet, you would only be able to deduct a percentage, probably around 10 to 50 percent, depending on how much is going only to your work activities. The same applies to your phone bill, a computer use, or postage meters. You can only deduct the cost that relates to running your business.
So, how do you substantiate these costs? The best bet is to fully separate supplies – getting a business-only printer, a work-only phone, and tracking your time online with a time tracker like Toggl. This will help cover your bases come tax time.
Schedule a Consultation with Our CPAs
We understand that the tax deductions related with business expenses are confusing, especially as COVID-19 has led all of us to dip into our personal accounts to cover them. For professional accounting and tax preparation assistance, schedule a consultation with our CPAs today at (919) 493-2603 or fill out the form below. We serve Raleigh, Durham, Wake Forest, Cary, Wilson and surrounding areas.