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Where’s my 1099-MISC?

2014 Form 1099-MISC

This is another common question I get this time of year. First lets start with what is a Form 1099-MISC and who should receive one.

Form 1099-MISC

The form (PDF) reports payments for quite a few different things but most payments fall into a few categories. The most common reasons for issuing are:

  1. Box 1 – Payments of rents, for example rent paid to a landlord for office and retail space
  2. Box 2 – Royalties for writers, mineral rights, etc.
  3. Box 6 – Medical and health care payments
  4. Box 7 – Nonemployee compensation, shows payments made in the course of business to an individual or entity that provides services to a business. For example, a retail store may pay someone to clean their windows on a regular basis. If the total payments for the year equal or exceed $600 then the retailer is supposed to issue a Form 1099-MISC to the window cleaning service.
  5. Box 14 – Gross proceeds paid to an attorney

Who is required to send the form?

If a payment(s) are made in the course of a trade or business and equal or exceed the applicable dollar amount, then the payer (business) must complete a Form 1099-MISC. The payer sends the form to IRS and the recipient of the payment. The payer may also have to send copies to state tax departments. The general threshold is $600 but it is lower for payments to attorneys and for royalties and is $5,000 for direct sales of consumer products (box 9). There are some exceptions: generally payments to corporations and LLCs taxed as corporations are not subject to reporting. However, some payments to corporations are reported – such as those to attorneys and medical payments. The payer needs a Form W-9 on file to prove the entity they paid is a corporation or a LLC taxed as a corporation.

Finally, the question

Where’s your 1099-MISC form? It could be in transit as the form can be sent as late as January 31st and not be late. In addition, payers can ask for an extension from IRS causing a legal delay. The payer could be late sending the forms or just fail to comply with the law. It is also possible, the payer had the wrong address for you and either has not received the form back yet or decided not to find your correct address. Maybe you moved and did not tell the payer of your new address and the mail was not properly forwarded.

What do you do if you do not receive the Form 1099-MISC?

The Internal Revenue Code requires you to keep a set of books and records of all your income and deductions. Not receiving the 1099-MISC is not an excuse for not knowing how much you earned since you are required to track it yourself. In addition to the legal requirement, you should track it to make sure any form you receive has the correct amount on it. If the form shows more money than you received, check with the issuer/payer to get the form corrected. IRS puts a lot of faith in the forms but they are sometimes wrong. I see quite a few wrong ones every year.

The 1099-MISC is not attached to your return so no need to have it except in at least one situation. If the payer withheld federal or state income tax, you want the form to make sure the amounts are correct and that the payer reported the withholding to IRS and any applicable states. Federal withholding usually only applies when you are subject to backup withholding, a subject I will not get into here. If you are subject to backup withholding, you should already know that. State withholding is more common as many states require payers to withhold taxes on service providers who are not residents.

Recommendations

If you do not receive a 1099-MISC, check with the payer. If they issued on it is best to have a copy so you can make sure your records agree with the amount on the form. If they do not and you cannot get the form changed, then you need to be able to explain the difference. Other than human error, the most common difference is payments at the end of the year. The payer includes the payment on the form when they send payment while cash basis taxpayers include the payment when they receive it the next year.

If they payer says they did not issue a form 1099-MISC, then go with your records of what you received. Any penalties for not issuing a form are on the payer not the recipient.

Finally, do not obsess over not receiving a 1099-MISC. Your records (bank statements, invoices, etc.) are what you are required to keep.

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Electronic records retention for businesses

File cabinet, courtesy Wikimedia Commons

I get this question quite a lot – “Can my business keep copies of receipts and other tax documents electronically and destroy the paper copy?” The short answer is “yes, as long as you meet the rules.”

Where does IRS get off requiring me to keep records?

Congress gave IRS broad authority to require taxpayers to keep records. Internal Revenue Code (IRC) Section 6001 begins: “Every person liable for any tax imposed by this title, or for the collection thereof, shall keep such records, render such statements, make such returns, and comply with such rules and regulations as the Secretary may from time to time prescribe.” If you choose not to keep something IRS says you should, then IRS is allowed to use its own judgement to determine the amount of income or deduction, within reason. Then the taxpayer has to prove IRS wrong. If you keep the records required, the onus is usually on IRS to prove you wrong.

Requirements for imaging hard copy records

The IRS has quite a few regulations and pronouncements on the records to keep and of course Congress has added some requirements directly into the IRC. The one this post is interested in is Revenue Procedure 97-22 (PDF), an almost 18-year-old pronouncement. It might be time for IRS to do some updating. The closest IRS gets to mentioning the cloud is to say that farming record retention out to a third-party does not relieve the taxpayer from complying with Rev. Proc. 97-22. Here is a brief list of the rules:

  1. All the rules for paper records apply to electronic records unless specifically exempted.
  2. The electronic system must:
    1. Provide an index
    2. Be able to reproduce legible records
    3. Preserve the records
    4. Provide reasonable controls to make sure the records and index are reliable
    5. Reasonable controls to prevent and detect unauthorized creation, deletion, and changes
    6. Include a quality control and inspection system
    7. Evidence of regular evaluations of the system to make sure it is operating as designed
  3. Be able to cross-reference the images to the books, for example the QuickBooks file.
  4. Be able to provide IRS:
    1. A complete copy of the electronic records
    2. An index to the records
    3. A description of the procedures for accessing the records
  5. There can be no contractual requirements that prohibit IRS access to all the records.
  6. The electronic records have to be kept “so long as their contents may become material in the administration of the Internal Revenue laws ….”

Selected practical guidance

Legible

Legible means just what you think it means, you have to be able to easily read everything. Not all scanners are good at this, especially if you are converting a color document into a black and white document. For a small business, at the start you might want to look at every image before destroying the original. Later on in the process, you should sample the scans, especially the ones you find are difficult to read if not handled precisely. For a larger business, sample the images even at the beginning but always look at the first few images for a new type of document.

Indexing

The Rev. Proc. says an index similar to what would be used with a paper filing system is acceptable. For a small business, an alphabetical index separated by tax year would work. The more volume to the records, the more detail in the index. For example, splitting expenses by vendor might be required if there are tens of thousands of documents.

Backups

Keep backups! IRS is not going to buy the equivalent of the “dog ate my homework.” Backup to USB drives, DVDs, or the cloud. Perhaps backup to all three. Just make sure to keep the documents secure and have a plan for protecting them from accidental or intentional erasure or manipulation. Consider keeping hard copies of documents that will just not scan legibly or that involve large amounts. Large being a relative term depending on the business.

What if I choose not to follow the rules?

I think you can guess the outcome – IRS can assess penalties, both monetarily and possibly criminally. If the scanned documents are not compliant with the Rev. Proc. then IRS can deny deductions and make other changes which the taxpayer will find difficult to refute since IRS has already determined the imaged documents are inadequate.

 

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Labor law posters are still free in 2015!

Labor law poster

 

 

 

 

 

It is around this time of year we begin to see companies trying to sell labor law posters that are available for free. Some businesses are better off purchasing the posters because it saves time, assuming the poster you buy covers everything. You can check which posters you need at these two sites (assuming you are an NC employer):

  • NC allows you to download their posters from here.
  • The US DOL has a notice adviser/wizard called elaws®.

The posters are updated regularly and the penalties can be quite harsh. I recommend you check at least annually to see your business’ posters are up to date.

You can see my February 2014 post for more details.

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QuickBooks reconciling the right way


image courtesy of SeniorLiving.Org

One of the most common QuickBooks’ misunderstandings is the difference between downloading credit card or bank account transactions and reconciling. Downloading the transactions is only one step in the process. If you enter your bank transactions into QuickBooks as you make them, downloading may not even be a step you need in the reconciliation process.

QuickBooks is designed by humans and operated by humans which introduces the possibility of human error. Sometimes items are downloaded twice, sometimes the download duplicates a manual entry, and sometimes the download misses a transaction. The reconciliation process is designed to catch these types of issues.

In QuickBooks for Windows the two most common ways to start the reconciliation process are:

  1. Click the reconcile button in the Banking section on the QuickBooks’ home page (in the software not on the internet).
     or
  2. Click “Banking” in the menu bar and then select “Reconcile.”

Enter the date of your most recent bank statement and the bank balance and then click “Continue.” If you do not know what to do on the next screen, please check online help or look at the reconciliation instructions from your bank. The process is similar in QuickBooks.

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Electing to be taxed as a corporation


photo: hobvias sudoneighm on Flickr,
license, no change

Back in 1996, IRS decided to simplify entity classification by allowing certain non-corporate entities (1) to elect how they would be taxed. Typically, an entity uses Form 8832 (PDF) to make the election. If the entity is not a corporation and it wants to be taxed as a corporation under Subchapter S of the Internal Revenue Code, then the entity should file Form 2553 (PDF) instead of Form 8832.

Therefore an entity can elect (choose) to be taxed as though it was a corporation even though it is not legally a corporation under other laws. For example, in the U.S. a general partnership can be formed with a handshake (2) between two or more co-owners.  A general partnership provides no legal liability protection and each owner can commit the partnership to a contract without the other owner’s permission and input. The general partnership is treated as a flow-through entity meaning the income, losses, and many other items “flow-through” to the owners to be taxed on the owners’ income tax returns.

If the general partnership then elects to be taxed as a corporation under Subchapter C of the Internal Revenue Code, it files and pays most federal taxes the same as a state law corporation that has not elected to be taxed under Subchapter S. In other words, the electing general partnership now pays its own income taxes and the partners only pay tax on wages or dividends they receive. It is important to keep in mind that the election is for tax purposes only. The legal entity does not change, the general partners still have unlimited liability for all purposes other than taxes.

Finally, if you are considering such an election you should check to see if the state or states in which your business operates recognizes the election or not. NC recognizes the federal election without you having to do anything else. Some states require an additional form to be filed to notify them of the election.

  1. General partnerships, limited partnerships, limited liability companies (LLCs), professional limited liability companies (PLLCs), trusts, sole proprietorship and limited liability partnerships are the most common types of entities that can elect to be taxed as a corporation instead of under their default classification. Foreign entities are more tricky and outside the scope of this post.
  2. It is best to form a general partnership in writing to avoid any misunderstandings, memorialize your initial understanding, and provide a method for splitting up or selling the general partnership.

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LLC often best for business on side?

So you are employed full-time and want to start a business on the side. You also want some liability protection and in your full-time job make close to or over the Social Security wage limit (i.e. you will owe little or no more Social Security tax on your side business income).

A Limited Liability Company (LLC) may be your best choice. As its name says, your liability is limited compared to the liability you would have as a sole proprietor. Not all types of businesses receive the same liability protection and an LLC cannot typically protect you against liability for your own personal intentional acts. You should check with your attorney so you understand the amount of liability protection you will get.

Another advantage of a single member (owner) LLC is that by default it is ignored for tax purposes and is considered (for most purposes) as just another activity of its owner. So for a single member LLC (SMLLC) owned by a person, the default is to tax the SMLLC as a sole proprietorship. No separate income tax filing is required, just one or more additional forms added to your personal 1040. For a corporation, the SMLLC income and expenses are typically just added to all the other activities of the corporation and reported on the same forms.

If you choose to operate as a multiple member LLC, a corporation, or a partnership then the entity has to file a separate tax return. There are a few limited exceptions to the separate filing requirement for a multiple member LLC when the only owners are spouses but this post will not address them. In addition, if you choose to operate as a corporation, then the corporation will need to put you on payroll and pay you a reasonable salary. This means payroll tax returns with IRS, W-2 filing with Social Security, state payroll tax filings and perhaps workers compensation insurance depending on your state. If you have other employees, adding yourself is not a lot of extra work but if it is just you then look forward to a lot of additional paperwork and additional taxes.

Your corporation has to withhold and match your Social Security taxes as though it is your only employer. So if you are already paying the maximum Social Security taxes, creating a corporation forces the company to pay extra Social Security taxes in its match. You get your additional Social Security taxes credited against your income taxes but the company does not get its match back.

If your business is your main livelihood, a SMLLC taxed as a sole proprietorship may not be your best choice. However, one of the beauties of an LLC is that IRS allows an LLC to elect to be taxed like a corporation. So your SMLLC can start out taxed as a sole proprietorship and later change to be taxed like a corporation. The election to be taxed as a corporation can be arranged to be tax-free and it usually is tax-free. On the other hand, starting as a corporation and then wanting to switch to an LLC not taxed as a corporation is a taxable event. How much tax depends on your circumstances.