Supporting Business Income and Expenses

Frequent readers of my blog know that I recently attended Tax Summer Camp, better known as the 2017 IRS Tax Forum, held in five cities across the country. At this year’s forum in Washington, DC, over 2,700 tax professionals heard about tax trends and issues from IRS representatives and experienced tax practitioners.


Two of the 18 sessions that I attended (yes, I said 18!) addressed documentation required by the IRS to support business income and expenses reported on a tax return. The tax rules generally require the same documents that you already keep to maintain the records used to monitor your business activities and prepare financial statements.


The IRS Forum emphasized four rules to support business income and expenses:


  1. Business income should be supported by invoices, IRS Forms 1099, receipt logs, bank deposit slips, online receipt records, cash register tapes, and other documents that show the amounts and sources of income, as well as the dates received.


  1. Maintain separate records and a separate bank account for each business and for personal transactions to identify income that derives from your business vs. personal income. A separate business account also makes it easier to reconcile business financial activity between the bank and your financial records.


  1. Documents that the IRS will accept to support business expenses include canceled checks, credit card sales slips, and vendor invoices:
    1. Check payments should be recorded in the financial records to include the check number, amount, payee’s name, date, and business purpose.
    2. Electronic funds transfer payments must show the amount transferred, the payee’s name, the date the transfer was posted by the financial institution, and the business purpose of the expense.
    3. Credit card payment support consists of the statement showing the amount charged, payee’s name, and transaction date. The business purpose must be noted in the financial records.


  1. Expenses for “mixed use” assets, such as vehicles, computers, and cell phones, must be allocated between business and personal use. Use an automated or manual log to track the use of the asset and maintain the log as support documentation.


Dedicating so much IRS Tax Forum time to business income and expense support reflects the topic’s importance. Don’t get caught short on support documents if the IRS asks questions about items reported on your income tax return. Maintain up-to-date financial records and all required support documents as you go throughout the year.


Delaying your Income and Taxes

A general rule of thumb about managing tax liability is to delay income and accelerate expenses. As much as possible, that is. One way to delay income and taxes is to maximize all of your available deductible retirement savings. After socking away as much as possible in your retirement plans, there could be another way to push taxable income into the future – a deferred compensation plan.


Compensation that employees or independent contractors earn in one year, but that is paid in a future year, is referred to as “nonqualified deferred compensation”. This arrangement has different eligibility rules than deferred compensation in the form of contributions into qualified plans, such as a 401(k) or a 403(b).


A nonqualified deferred compensation plan is a formal written agreement between an employer and an employee or independent contractor. The type of plan is often offered to company officers or other high earners at larger organizations — typically, those making at least $115,000, but often much more. Plan participants can stash away more money than allowed under a qualified retirement plan. Employers may pay interest on the deferred funds, or allow participating employees and contractors to choose from other options.

One benefit of a nonqualified deferred compensation plan vs. a qualified retirement plan is flexibility. Deferred income distributions are not subject to penalty if made before age 59½. Employees and contractors can tailor the timing of payouts from a deferred compensation plan to provide income in the early retirement years, letting their qualified retirement savings and investments grow for later.

One big risk is depending on an employer to remain financial strong enough to pay on its promise. By deferring money, employees and contractors are essentially accepting a promissory note that is not protected if the organization runs into financial difficulty. While funds in a qualified retirement plan are protected in times of trouble, money deferred in a nonqualified plan is not. In case of bankruptcy, individuals with deferrals become unsecured creditors of the organization, and must line up behind secured creditors in the hopes of getting paid.

Looking for more options to delay income and taxes? Check with your employer to see if deferred compensation is an option. Get all the details and see if it fits into your plans.