What To Do Before You File Your Tax Return

Last–minute actions can minimize your tax bill and help you avoid problems with the IRS.

Column by Barbara Weltman

March 15 is a key date if your business is incorporated. It's the deadline for filing your 2004 corporate income tax return, or requesting a filing extension (assuming you're on a calendar–year reporting basis).

Partnerships, LLCs and their owners as well as sole proprietors on a calendar year, have until April 15 to file their income tax returns for 2004. Whether you work with a tax professional or prepare your own return, you'll want to review certain key items to make sure you're taking full advantage of write–off opportunities while avoiding actions that can trigger an audit.

Check and double-check your return

It's easy to overlook items you intended to report, even if you use a computer to prepare your return. Software and Internet–based tax preparation includes only the information you tell it to. Here are some things to look for:

Take every deduction and credit you're entitled to. Don't overlook new write–off opportunities. For 2004, there is a new deduction for contributions to health savings accounts. Idea: Look over last year's return to jog your memory about deductible expenses you may have overlooked.

Include carryover items. There are several write–offs that you may not be able to claim in full in the current year but can carry forward to future years. Be sure to keep track of these carryover items so that you can claim the allowable portion each year. Carryovers include amortization deductions for start–up and incorporation expenses, home office deductions, net operating losses and certain business tax credits. Weigh your election options. There are a number of write–offs that you can choose how and when to claim. Consider the impact of your decision, not only on the current year but also on future years. Pay particular attention to:

1. Expensing and bonus depreciation for equipment purchases–whether to claim maximum write–offs this year or simply use depreciation to claim deductions over the property's recovery period (typically five or seven years). To claim expensing, you must elect it. To not use bonus depreciation, you must affirmatively decline it by attaching a statement to your return.
2. Car expenses–whether to use the IRS standard mileage rate (37¢ per mile for business travel in 2004) or deduct your actual operating expenses for the car. Assuming you have the records to prove your actual expenses, use the method that provides the greater deduction.
3. Uninsured disaster losses–losses suffered in 2004 can be deducted on your 2004 return or on an amended return for 2003. Claim your loss in the year that you'd enjoy the greater tax benefit.

Avoid red flags

Certain write–offs can attract a closer look by the IRS. Make sure that you're entitled to the deductions and credits you claim and that you have the records to back you up, just in case you're questioned.

Retain tax records. Keep records of travel and entertainment expenses–key areas questioned by the IRS–for at least three years from the due date of the return (or the date you file, if later). These records should include not only receipts for expenses but also diaries, travel logs and expense account sheets showing the date and purpose of each expense.

Determine eligibility for a home office deduction. If you run your business from home, don't fear that you'll trigger an audit if you claim a deduction for business use of your home. But if you have an office elsewhere and use a home office occasionally, check to see that you're entitled to a deduction in this case. For more information, see IRS Publication 587, Business Use of Your Home, at www.irs.gov.

Filing extensions

If you need more time to complete your return for any reason here's the form to file and the added time you gain. Be sure to pay the taxes owed on time to avoid interest and penalties — a filing extension does not extend the deadline for payment.

Type of return	Form for requesting an extension	Automatic extension
Form 1040 (sole proprietors)	Form 4868	4 months (to August 15)*
Form 1065 (partnerships and LLCs)	Form 8736	3 months (to July 15)**
Form 1120 (C corporations)	Form 7004	6 months (to September 15)
Form 1120S (S corporations)	Form 7004	6 months (to September 15)

*Sole proprietors can request an additional two months by filing Form 2688 by August 15. **Partnerships and LLCs can request an additional three months by filing Form 8800 by July 15.

Final review

Each year the IRS identifies common errors and audit targets for small business. Here are some areas to avoid where you should exercise caution:

• Compensation to owners: Paying yourself an unreasonably high salary or benefits package if you're a C corporation. Only reasonable compensation is deductible by the business. Alternatively, if you fail to pay sufficient compensation for work performed for your S corporation, the IRS may argue for higher compensation so that both you and the corporation pay employment taxes on that reasonable amount.
• Worker classification: Erroneously labeling a worker as an independent contractor rather than as an employee. Be sure that you don’t exercise the degree of control that makes a worker your employee. Treat all such workers consistently and be sure to file Forms 1099–MISC for your independent contractors.
• Interest–free loans: Failing to report interest from interest–free or below market loans made to you by the business.

Check for completeness. As obvious as it seems, make sure you've answered all questions you need to and that all forms and schedules have been attached. Omissions can be just as problematic as misinformation. Note: This year, small corporations no longer have to complete the balance sheet and other schedules, so check to see if you're entitled to this relief.

Read more about author and tax expert, Barbara Weltman.

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