Everyone should do their utmost to prevent an audit on their taxes, but you should always be prepared for an audit. The best way to increase your chances of coming out of audit unscathed is to keep excellent records. The IRS will not take your word as proof of anything, so it pays to have as much documentation to back up your taxes as possible.
If you are not doing so already, set up a filing system and update it consistently. You can purchase online tracking systems and other software, but a simple spreadsheet is all you need for your bookkeeping. This will help you get organized and give you a clear picture of where you stand financially. Here are a few tips to help you maintain a good bookkeeping system.
Receipts – If you don’t have a receipt, don’t claim the deduction. If you can’t find a receipt, try to obtain a copy from the company who sold you the item. Credit card statements are dubious proof because many don’t itemize what you bought.
- Bills—Like credit card statements, canceled checks don’t prove anything except that you paid for something. If you pay a business-related bill by check, the important item to file is the invoice, along with the canceled check if possible.
- Mileage logbook—If you use your car for business, track all your business mileage. Keep a logbook in your car and use it at the beginning and end of every client visit and office supply run. Record the date, starting and ending mileage, and the client name or other business purpose.
- Appointment book—You will need to keep your appointment book as a record of your business meetings, conferences you attended, and other business-related tasks you did. The book will confirm your receipts and mileage and, in the event of a loss, help you prove that your business is legitimate and real.
- Check stubs and invoices—Keep a copy of every invoice you send a client and the check stub that goes with that invoice.
- Account statements—If possible, use separate bank accounts for your business. File all account statements, both business and personal. Comingling will just create a headache for you as you try to make sense of countless personal and business transactions.
If you are audited and found to owe back taxes, you can appeal that audit by writing your district director to report that you disagree with the amount you owe. You may be able to reduce the amount you owe but be aware that if you lose, you’ll owe late fees, too.
Here is an example of a real estate activity log to help you keep track:
Finding Property:
B-1. Check & review sources for finding investment properties
B-2. Develop a list of bird dogs as sources of good buys and motivated sellers
B-3. Meet with bird dogs as sources of good buys and motivated sellers
Due Diligence:
B-4. Do a market location analysis including emerging or reemerging locations
B-5. Checkout specific neighborhoods performing a neighborhood analysis
B-6. Physically go out and search for investment properties
B-7. Contact prospective property owners
B-8. Do a preliminary quantitative analysis on properties (such as the cap rate)
B-9. Do a preliminary “drive-by” property inspection
B-10. Make & negotiate purchase offers on the property
B-11. Verify the income, expenses, and vacancies on the property’s operating statement
B-12. Review leases, utility bills, maintenance contracts, and other pertinent documents
B-13. Do a thorough physical property inspection analysis
B-14. Obtain Estoppel Statements from the seller and tenants.
B-15. Forecast projected income & expenses for a total projected annual yield
Offers and Contracts:
B-16. Make final offers
B-17. Prepare contract for purchase of property
B-18. Review the seller’s contract for the purchase of their property
Financing Property:
B-19. Check out sources of financing for acquiring property
B-20. Review Member credit reports; repair or correct accordingly.
B-21. Prepare a Credibility & Profile Package
B-22. Meet and develop rapport with lending sources
B-23. Prepare a Loan Package for a property acquisition
B-24. Arrange for financing for acquiring property
B-25. Negotiate the seller to hold financing
Closing Property:
B-26. Prepare for the closing of the prop. purchase, such as arranging inspections, certs, etc
B-27. Do a pre-closing inspection of the property
B-28. Attend the closing of the purchase of the property
B-29. Take care of any post-closing matters
Follow-up:
B-30. Follow-up to see if any prior prospective sellers are more prone to renegotiating
B-31. Renegotiate the transaction to finalize the purchase as per the above list
Financial AdministrationOperation of Property:
B-32. Select CPA for the property financial & tax affairs
B-33. Select attorney for the property legal affairs
B-34. Select a bank that handles the property’s accounts
B-35. Select a qualified bookkeeper
B-36. Select a suitable bookkeeping/tenant-tracking computer-based system
B-37. Do or supervise the bookkeeping, accounting, and tax work for the properties
B-38. Prepare and revise operating statements, budgets, cost control, tax planning, etc.
B-39. Review & update the insurance needs on the property
B-40. Review real estate tax assessments for the possibility of an appeal to lower taxes
B-41. Set up websites for the Company
B-42. Approve hiring & firing of office personnel – employees & independent contractors
B-43. Make the appropriate recommendations for improvement of the above on a periodic basis
B-44. Other:
Condo Conversion Analysis:
B-45. Review if the property is adaptable for a cost-effective condo conversion
B-46. Is there a current resale market demand for condos in property location
B-47. Review state or local guidelines on regulating condo conversion
B-48. Select legal specialists to do condo conversion documents.
B-49. Select marketing specialists to sell condos
B-50. Review if condos will be held for rentals; or sold/exchanged
B-51. Review tax impact and planning of condo sales (refer to Albert Aiello’s new commercial tax course, Astronomical Tax Savings With Commercial Property which has three chapters just on condo conversions)
Sale/Exchange of Property:
B-52. Do an income tax analysis before selling the property
B-53. Review seller tax reduction strategies (eg: 1031 exchange, CRT, installment sale)
B-54. Prepare the property for sale/exchange (improvements, raise rents, tell tenants, etc.).
B-55. Evaluate marketing techniques to sell or exchange the property
B-56 Interview and select a real estate agent to list the property
B-57. Frequently follow up with the listing agent
B-58. Review and negotiate offers on the property for sale
B-59. Arrange for financing for selling the property
B-60. Review selling the property with creative financing (eg: lease-option; seller fin.)
B-61. Prepare for the closing of the property sale, such as arranging inspections, certs, etc.
B-62. Attend pre-closing inspection of the property
B-63. Attend the closing of the sale of the property
B-64. Take care of any post-closing matters.
Real Estate Educational Events
B-65. Attendance at Real Estate Investor Association monthly meetings
B-66. Attendance at real estate education seminars, conferences, boot camps, and cruises
B-67. Reading or listening to (tapes) related real estate education
Other Related Bus. Activities:
Management-Landlord Activities For Company Property
M-1. Analyze the rental market, including vacancies
M-2. Analyze the type of tenant (quality-wise) the property will attract (within fair housing)
M -3. Analyze if the current market supports raising rents
M -4. Analyze if cosmetic improvements can be made for higher rents
M -5. Analyze if structural improvements can be made for higher rents (eg: redo floor plans)
M -6. Analyze if rents can be increased by catering to certain types (within fair housing)
M -7. Check for any special tenant programs (such as Section 8 or assisted housing)
M -8. Market the property for rental
M -9. Show the property for rental
M -10. Decide the rental terms for tenant leases and rental agreements
M -11. Take, accept, and process tenant applications
M -12. Thoroughly screen tenants by interviewing them
M -13. Thoroughly screen tenants by checking prior landlord and job references
M -14. Thoroughly screen tenants by checking out where they live and talking to neighbors
M -15 Approve tenants in accordance with fair housing rules
M -16. Disapprove prospective tenants in accordance with fair housing rules
M -17. Prepare the leases
M -18. Review leases with tenants with their signature on every page of the lease
M -19. Do Move-in processing
M -20. Do Move-out processing
M -21. Clean & prepare units for rental
M -22. Collect rents
M -23. Handle any tenant evictions
M -24. Handle any other tenant problems
M -25. Initiate new rental & tenant selection policies (in accordance with fair housing)
M -26, Review to reduce turnover costs via vacancies with better management
M -27. Create management efficiency by separating/transferring utilities to tenants
M -28. Create management efficiency by looking to use unutilized space (eg: basement, attic)
M -29. Review additional sources of income from storage facilities
M -30. Review additional sources of income from laundry facilities
M -31. Review additional sources of income from vending machines
M -32. Review additional sources of income from parking
M -33. Review additional sources of income from optional upgrades (2nd TV, computer)
M -34. Review additional sources of income from other sources (eg: maid service)
M -35. Do or discuss renovations for property expansion
M -36. Hire a management company or resident manager
M -37. Fire management company or resident manager
M -38. Hire & recruit maintenance personnel
M -39. Fire maintenance personnel
M -40. Supervise the resident manager, maintenance personnel & other mgmt. personnel
M -41. Approve all capital or repair expenditures for management efficiency
M -42. Decide who makes, or is to be responsible for repairs, maintenance & improve
M -43. Initiate/review strategies for property security, safety & sanitation.
M -44. Create management efficiency with a program of preventative maintenance (PM)
M -45. Review any property maintenance and service contracts (heater, exterm., etc.)
M -46. Set up purchasing procedures for maintenance supplies & materials
M -47. Shop & purchase for maintenance supplies & materials
M -48. Review the reserve for the replacement of components, equipment, etc.
M -49. Personally inspect the property for maintenance & management efficiency
M -50. Personally talk to the tenants for maintenance & management improvement
M -51. Review the insurance needs of the property for management efficiency
M -52. Reduce operating expenses (via APOD) without loss of property quality or safety
M -53. Review & update overall property management & operational procedures
M -54. Review property management/tenant tracking software programs
M -55. Prepare and update the resident’s management newsletter or handbook.
M -56. Read MR. Landlord and other property management publications
M -57. Attend management seminars, conferences, boot camps, and cruises
Real Estate Advice:
A-1. Provide investment advice and strategy for the Company
A-2. Provide market analyses and strategy for the Company
A-3. Provide advice for the Company as to future trends in real estate
A-4. Provide management advice and strategy for the Company
A-5. Provide marketing advice and strategy for the Company
A-6. Provide other pertinent advice related to the Company’s real estate business
TOTAL HOURS/MILES…………………………………………………………………………..
Here are some recent questions from my blog:
QUESTION: When buying tax liens in the name of an LLC, do I have to fill Schedule C (profit and loss) for tax lien interest (1099INT) or can I show it on my personal return? I don’t have any income in the LLC name otherwise.
ANSWER: It depends on the type of LLC, Single Member LLCs are disregarded for tax purposes meaning that the income or expenses you receive from the LLC are picked up directly on your tax return. If it is a multi-member LLC, then you would need to file a form 1065. In this case, sounds like an SMLLC therefore that income retains the original character of being passive income and therefore belongs as interest, not Schedule C income
QUESTION: I own a two family—live in one half and rent out the other half. I have losses on the rented half -due to expenses, mortgage interest, etc exceeding rent. My accountant tells me that I can’t deduct this loss on the rental due to my and my wife’s AGI exceeding the limits. The accountant is only deducting half of my mortgage interest on my itemized deductions. Can I move the other half of the mortgage interest (from the rental) to my itemized deductions?
ANSWER: Here is an IRS rule that suggests that there is flexibility in how you pick up the expenses that otherwise would have been fully deductible on Schedule A.
Renting out part of the home. If you rent out your home into account. If you meet these tests, then you can deduct all or part of a qualified home to another person (ten- of the payments you actually made), you can treat the rented part as being used by you for residential living only if all of the following conditions apply.
• The rented part of your home is used by the tenant primarily for residential living
• The rented part of your home is not a self-contained residential unit having separate sleeping, cooking, and toilet facilities.
• You do not rent (directly or by sublease) home to your main home. more than two tenants at any time during your tax year. If two persons (and dependents of either) share the same sleeping quarters, they are treated as one tenants
I address many of these issues in my Wealth Building Plan. Make sure you are getting the best tax advice. Let me evaluate your financial and tax situation, then develop a customized tax strategy just for you. Together, we will come up with a strategic plan designed to answer your questions as you build your customized wealth-building plan. You can get more information at Wealth Building Plan
