05 - Small Business Tax Checklist

Running a small business means managing countless details, and tax compliance is one of the most critical. It's easy to overlook complex rules, but the risks—from disallowed deductions to major audits—are high. To help you spot potential red flags, we've compiled a checklist of key accounting and tax concepts, their real-world impact, and the risk level involved. Use this guide to shore up your practices and prepare for our next CPA discussion.

Concept	Definition or Explanation	Example of Concept	Risk Assessment (Importance of Getting it Right / CPA Discussion)
Recordkeeping	Keeping accurate and complete records of all income and expenses. This includes bank statements, receipts, invoices, and tax forms (1099s, W-2s).	Johnnie, a self-employed individual with a ""Honey-Dos"" business, receives most payments in cash. He needs a system to track all cash from receipt to deposit or spending.	High: Poor recordkeeping is a major red flag for the IRS. It can lead to disallowance of deductions, underreported income allegations, and makes audits incredibly stressful and time-consuming. Crucial for a CPA to help set up a robust system.
Cash Intensive Businesses	Businesses that receive a high volume of small cash transactions (e.g., restaurants, grocery stores) or pay for services primarily in cash (e.g., construction). These businesses are often targeted for IRS audits due to a higher risk of underreported income.	A restaurant owner consistently reports low profits on their Schedule C, even though the business is always busy. The IRS may question if all cash receipts are being reported.	Very High: These businesses face increased IRS scrutiny. Consistent losses or low profits in a cash business are a significant red flag. A CPA can help establish internal controls and review financial statements for consistency with industry norms.
Hobby Loss Rules	Distinguishing between a legitimate business with a profit motive and a hobby. If an activity is a hobby, expenses generally cannot exceed income, and losses cannot offset other income.	Steve loves scuba diving and teaches lessons on weekends, trying to deduct all his boat and equipment costs. If he doesn't operate with a clear profit motive, the IRS might reclassify it as a hobby.	High: Consistent losses on a Schedule C can trigger an audit. It's vital to demonstrate a genuine profit motive using factors like maintaining good records, expertise, time and effort, and a business plan. A CPA can help clients build a strong case for their business.
Independent Contractor vs. Employee Classification	Correctly classifying workers as either independent contractors or employees. Misclassification can lead to significant penalties, back taxes (employer and employee portions), and legal liabilities.	Charlie, owner of ABC Widgets, classifies all 52 full-time workers as independent contractors to avoid payroll taxes and benefits. The IRS could reclassify them, leading to huge costs for Charlie and penalties for his preparer.	Extremely High: This is a top audit issue for the IRS and DOL with severe financial consequences for misclassification. A CPA must thoroughly review worker relationships and advise clients on the risks, recommending legal counsel if needed, and potentially the VCSP.
De Minimis Safe Harbor Election (Tangible Property Regulations)	Allows taxpayers to expense certain tangible property purchases (e.g., equipment, furniture) up to a specific dollar amount per item or invoice, rather than capitalizing and depreciating them. The limit is $5,000 with applicable financial statements (AFS) or $2,500 without AFS.	A small business without AFS buys three printers for $1,600 each. They can elect to expense all three printers instead of depreciating them.	Moderate to High: Can simplify accounting and accelerate deductions. Businesses need a written capitalization policy and must apply the election consistently. A CPA can ensure proper election and adherence to the policy.
Partial Disposition Election (Tangible Property Regulations)	Allows taxpayers to write off the adjusted basis of a disposed-of component of a larger asset (like replacing a roof on a building) when a new, similar asset replaces it.	A manufacturing facility replaces its old roof. The taxpayer can elect to deduct the remaining adjusted basis of the old roof as a loss and capitalize the cost of the new roof.	Moderate to High: Can provide significant tax savings through immediate write-offs. Determining the adjusted basis of the disposed component can be complex. A CPA is essential to ensure correct calculation and documentation of the disposed asset.
Meals and Entertainment Expenses	Rules for deducting business meals and entertainment. Generally, business meals are 50% deductible if ordinary, necessary, not lavish, and a business contact is present, and purchased separately from entertainment. Entertainment is generally non-deductible.	A business owner takes a client out for dinner to discuss a new project. The dinner cost is 50% deductible if proper substantiation is maintained.	High: A frequent audit issue. Strict substantiation is required: amount, date, place, business purpose, attendees, and nature of discussion. A CPA can advise on proper documentation and current deductibility limits.
Travel Expenses	Deducting ordinary and necessary expenses incurred while traveling away from home for business. This includes transportation, lodging, and meals (subject to limitations).	A self-employed individual travels to another city for a temporary business assignment expected to last less than a year. Their flight, hotel, and 50% of their meals are deductible.	High: Requires careful substantiation (cost, dates, destination, business purpose). Commuting expenses are generally not deductible unless specific exceptions apply (e.g., principal place of business is home). A CPA can clarify deductible vs. non-deductible travel and assist with documentation.
Office in the Home Deduction	Deducting expenses for a home office. The space must be used exclusively and regularly for business, and the home must be the principal place of business (with some exceptions). A simplified method ($5/sq ft, max $1,500) or regular method (actual expenses) can be used.	A consultant uses a dedicated room in their home solely for their consulting business, where they also meet clients. This qualifies for the home office deduction. However, using a corner of the living room also used by family would not qualify the entire room.	Moderate to High: Another common audit trigger. The ""exclusive and regular use"" test is critical. A CPA can help determine eligibility, choose the appropriate deduction method, and ensure proper documentation.
Identity Theft (PTIN/EFIN Monitoring, IP PINS)	Protecting against and responding to tax-related identity theft. This includes monitoring professional tax preparer identification numbers (PTINs/EFINs) and understanding Identity Protection Personal Identification Numbers (IP PINs) for clients.	A CPA notices a significant discrepancy in the number of returns filed under their PTIN compared to their records. This could indicate their PTIN has been stolen and used for fraudulent filings.	High: Identity theft can cause significant disruption and financial harm. A CPA needs to monitor their own professional credentials and advise clients on IP PINs to protect their tax accounts. This is crucial for both the practitioner and client.