We're approaching the halfway point in the year, and we thought that it might be a good time to discuss something that will impact the deductions on your 2023 return: 1099's.
When you pay a person or a company to provide a service for your business, that is a deductible business expense as long as the service is ordinary and necessary and its cost is reasonable.
When the total paid to that person or company is above $600, your company is required to file Form 1099 with the IRS and give a copy to the service provider.
But the tax court has stated that not filing Forms 1099 when you are required to do so can cast doubt on the legitimacy of your deduction.
As with any deduction claimed on the tax return, you have to keep sufficient records to substantiate the deduction amount.
Filing Forms 1099 would add to your documentation and help prove the expenses to an auditor. If you don't file Forms 1099, you need to provide ironclad documentation to prove the expenses, including some or all of the following:
· Bank statement transactions
· Canceled checks
· Credit card statement transactions
· Invoices from the contractor
· Signed agreements with the contractor
· A signed statement from the contractor verifying the amounts received
If you're required to prove your deduction in court, you will need very strong evidence that you made the payments. This means that your evidence has to make it more than 50 percent likely that you did make the payments to the contractors.
Don’t overlook the times when you don’t have to issue 1099s. For example, you don’t report the following payments to independent contractors on a Form 1099 even if total payments exceed $600 for the year:
· Payments made to a corporation
· Payments made to a limited liability company taxed as a corporation
· Payments made by credit card or a third-party payment network such as PayPal
Your failure to file the 1099s can cause audit stress and financial penalties. But failing to file the forms does not cost you your legitimate tax deductions for your payments to independent contractors.
When you are in an audit and you don’t have the 1099s, be sure you provide the auditor ironclad proof of the payments, as mentioned above.
If the auditor continues to take the erroneous position that your payments to the independent contractors are not deductible because of your failure to issue 1099s, first request a conference with his or her manager.
If that fails, challenge the audit results in the IRS Appeals Office. And finally, remember that you have the tax law on your side.
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