50% Bonus Depreciation Permanently Extended: Faster Tax Write-Off for Equipment

50% Bonus Depreciation: Faster Tax Write-Off for Equipment 

• 50% Bonus depreciation in some form has been in place since 2008 during President George W. Bush’s tenure in the White House to help stimulate a lagging economy.
• Under "Bonus Depreciation", companies can deduct an additional 50% of the cost of an equipment purchase in the first year of service, on top of the regular depreciation schedule.
• 50% Bonus depreciation is eligible in 1st year of service only.
• Bonus depreciation must be taken: 
• AFTER any elected §179 deduction and 
• BEFORE any regular depreciation.
• 50% Bonus depreciation must be on: 
• New property, 
• NOT Used property, and 
• New-in-Service to the taxpayer.
• Illustration: Assume that in 2013, a taxpayer purchased new depreciable property and placed it in service. (Consider elected §179 expensing to the cost of the property to be 20,000).
• Property’s cost is 100,000, and it is 5-year property subject to 200%/DB/Half-Year (MACRS method/convention).
• §179 elected is 20,000
• Additional first-year (50% Bonus depreciation) depreciation allowed is 40,000. [50% x (100,000 - 20,000)] 
• The remaining 40,000 (100,000 - 20,000 - 40,000) of the cost of the property is depreciated under the rules applicable to 5-year property. 
• 8,000 is allowable as current year depreciation expense in 2013 (8,000 results from the application 200%/DB/Half-Year method and convention to the remaining 40,000). 
• Total depreciation deduction with respect to the property for 2013 is 68,000. The remaining 32,000 Adjusted Basis of the property will be recovered over the remaining life of the asset using applicable depreciation rules.
• Additional first-year depreciation deduction is allowed for both the regular tax and the alternative minimum tax (“AMT”).
• IRC §168(k). Additional first-year depreciation deduction is subject to the general rules regarding whether an item must be capitalized under §263A.
• 100% of the adjusted basis of qualified original-use property that meets the requirements for the additional first-year depreciation is eligible. 

H.R.4718 - To amend the Internal Revenue Code of 1986 to modify and make permanent bonus depreciation

Tax Implications of Internet Currencies

Tax Implications of Internet Currencies

Not surprisingly in IRS Notice 2014-21 the IRS concluded that virtual currency transactions for services and goods had tax consequences. Virtual currency is a growing digital phenomenon where internet users trade real currency for board game dollars, like Monopoly. BitCoin has the most virtual currency activity. Refer to: weusecoins.com for background about internet currency.

The IRS clearly determined this digital currency activity is a property transaction that is measured by the FMV equivalent in US Dollars. The notice contains several key declarations.

• No foreign currency gain or loss is allowed
• 1099 reporting requirements exist
• A business/hobby determination is required
• Payroll and self-employment taxes are required for services and compensation
• Sections 6662, 6721, and 6722 penalties can be applied.

IRS Notice 2014-21 was written by the division of self-employment taxes within the Chief Counsel's Office. When reviewing your internet activity keep in mind the requisites of bartering activities and retain an internet money transaction log as part of your recordkeeping.
Courtesy: Massachusetts Society of Enrolled Agents

• BitCoin received in connection with a trade or business or received as wages is subject to ordinary income treatment at time received. BitCoin held for less than a year prior to disposition may be declared short-term capital gains or foreign exchange gains, receiving ordinary income treatment. BitCoin held more than one year prior to disposition, may be declared long term capital gains (with proper records) or foreign exchange gains.
• Don’t forget to include BitCoin activity when calculating your net investment income tax (NIIT).  If you are fortunate enough to have MAGI over the threshold amounts ($200,000 Single/$250,000 MfJ), BitCoin gains may be subject to NIIT. The statutory definition for net investment income includes interest, dividends, capital gains, rental and royalty income, income from businesses involved in trading of financial instruments or commodities and businesses that are passive activities to a taxpayer. BitCoin could fall into several of these categories, depending on your personal circumstances. Non-passive business income is not subject to the NIIT tax.
• Declare foreign banking activity by filing a Foreign Bank Account Report (FBAR), if necessary. US persons (citizens, residents and entities created in the US) must file the FBAR if, at any time during the year, they had a financial interest or signature authority over a foreign financial account with a value of more than $10,000. A wallet with an exchange located in a foreign country, such as Mt. Gox, (Mt. Gox was a BitCoin exchange based in Tokyo, Japan) would cause the taxpayer to be subject to the FBAR rules. Note that the reporting threshold applies to your account balance on every day of the year, not the average balance or balance on just the last day. The FBAR threshold is also crossed when multiple foreign financial accounts have an aggregate value of greater than $10,000.

Who is this guy named FICA?

Who is this guy named FICA?
FICA is the acronym for Federal Insurance Contributions Act. The acronym is often used in the US when referring to the combination of the Social Security tax and the Medicare tax.

Generally, all of an employee's earnings which are less than $117,000 in the calendar year 2014 are subject to payroll withholdings of 6.2% for the Social Security tax plus 1.45% for the Medicare tax. In addition, the employer is required to pay a similar amount. The result is that the employer must remit 15.3% (6.2% + 6.2% + 1.45% + 1.45%) of each employee's wages or salaries that are less than $117,000 in a year.  

A self-employed person must pay both the employee portion and the employer portion of the FICA tax.

There are specific rates that apply to an employee's annual earnings in excess of the FICA wage limit ($117,000 in 2014).

Additional Medicare Tax

Effective in 2013, the Additional Medicare Tax of 0.9% applies to earned income of more than $200,000 ($250,000 for married couples filing jointly). Employers withhold this tax on wages in excess of $200,000 regardless of an employee’s filing status.

The Additional Medicare Tax raised an individual wage earner’s portion on compensation above the threshold amounts to 2.35 percent from 1.45 percent; the employer-paid portion of the Medicare tax on these amounts remained at 1.45 percent. 

Net Investment Income Tax

Net Investment Income Tax is separate from the new Additional Medicare Tax, which also went into effect on January 1, 2013. You may be subject to both taxes, but not on the same type of income. The 0.9% Additional Medicare Tax applies to individuals’ wages, compensation, and self-employment income over certain thresholds, but it does not apply to income items included in Net Investment Income.

In general, net investment income includes, but is not limited to: interest, dividends, capital gains, rental and royalty income, and non-qualified annuities.

Net investment income generally does not include wages, unemployment compensation, Social Security Benefits, alimony, and most self-employment income.

Additionally, net investment income does not include any gain on the sale of a personal residence that is excluded from gross income for regular income tax purposes. To the extent the gain is excluded from gross income for regular income tax purposes, it is not subject to the Net Investment Income Tax.

If an individual has too little withholding or fails to pay enough quarterly estimated taxes to also cover the Net Investment Income Tax, the individual may be subject to an estimated tax penalty.

Social Security Cost-of-Living-Adjustment
Publication 15 (2014), (Circular E), Employer's Tax Guide

Spring Cleaning: What Financial Records to Keep and What to Throw Away

Spring Cleaning: What Financial Records to Keep and What to Throw Away

When it comes to financial papers, an approach of “better safe than sorry” can lead to a whole lot of clutter. Tax season is coming to a close, and spring is upon us; it’s time to rummage through those mounds of financial records and other important documents and determine what financial records to keep and what can go.

Here is a quick overview of how long you should keep those important documents:
Safe to Dispose of (optionally, keep permanently):

• Bank Deposit Slips (after reconciling statements)
• Certificates of Deposit (after maturity)
• Loan Documents (when repaid)
• Term life Policies (after term expires)
• Savings Bonds (after maturity)
• Car Title (when car sold)
• Warranties (after expiration)

Keep Permanently:

• Birth Certificate
• Death Certificates
• Marriage License
• Military Discharge Papers
• Social Security Card
• Loan Discharge Notices
• Employer Defined-Benefit Communications
• Permanent Life Policies
• IRA Contribution Records

Keep for One Year:

• Canceled Checks (7 years if needed to support tax filings)
• Check Registers
• Check Statements
• Credit Card Statements (7 years if needed to support tax filings)
• Pay Stubs

Keep for Seven Years:

• Brokerage Statements (after securities sold)
• Receipts (if needed to support tax filings)
• Purchase Confirmations and 1099s (after securities sold)
• Tax Returns and Supporting Documents
• Paperwork on Charitable Donations
• Investment and Real Estate Records (after you sell)
• Bank Statements

Keep Indefinitely:

• W-2 Wage and Tax Statement (until you start receiving social security)
• Receipts for Big Ticket Items

When You Receive a New One:

• 401k Statements
• Social Security Statements
• Bills for Non-Deductible Items
• Insurance Policies

Dispose of Old Copy When Updated:

• Health-Care Proxy
• Living Trust
• Living Will
• Power of Attorney
• Will
• Insurance Inventory

Every household must work out it’s own records management system, but some general guidelines can help. This is not necessarily a fully comprehensive list. However, it gives an idea of what can go and when. If you are confused or unsure about a document it’s best to check with your accountant before disposing of it.

This information was provided by:
Mary Ellen Hall EA
Rauker, Scheinfeldt & Company, Inc.
Auburn, MA
Phone - 508-832-4085
Email - Mary Ellen
Website - Rauker, Scheinfeldt

Courtesy:  My Senior Portal

Bitcoin News

Bitcoin

• New IRS guidance treats Bitcoins and other crypto-currencies not as money, but as property, for tax purposes and applies immediately to all returns. See the full text of Notice 2014-21. IRS Virtual Currency Guidance
• Regardless of what Bitcoin’s creators and promoters may say, as far as the IRS is concerned, bitcoin is not money or currency. The IRS will treat bitcoin holdings much like corporate stock or other property (IRS Notice 2014-21).
• Bitcoin are created by a digital “mining” process and is not backed or regulated by any government, central bank or other legal entity. Some claim this makes Bitcoin safer than traditional currency because its value can’t be manipulated by central banks or governments.
• Bitcoin can also be directly transferred anonymously across the Internet. This can make the Bitcoin a cheap way to settle international transactions because there are no bank charges to pay or exchange rates to deal with.
• No one has to accept Bitcoin as money. Nevertheless, a growing number of merchants are accepting them. In fact, a Manhattan real estate broker recently announced that it would start accepting payments in Bitcoin.
• Interestingly, people buy and sell Bitcoin for dollars on online exchanges — much like gold.
• Wages paid to employees using virtual currency are taxable to the employee, must be reported by an employer on a Form W-2, Wage and Tax Statement, and are subject to federal income tax withholding and payroll taxes.
• Payments using virtual currency made to independent contractors and other service providers are taxable, and self-employment tax rules generally apply. Normally, payers must issue Form 1099.
• Payments made using virtual currency will be subject to the same information-reporting rules as any other payment made in property.
• The IRS warns that taxpayers who treated virtual currencies in a manner inconsistent with IRS Notice 2014-21, before the date the notice was issued, will not get penalty relief, unless they can establish that their underpayment or failure to properly file information returns was due to "reasonable cause".

References:
inmanNEWS, "IRS’ Bitcoin Guidance Turns Every Transaction into a Reportable Capital Gain or Loss at Tax Time",  Stephen Fishman, Contributor, March 31, 2014

IRS Notice 2014-21

Journal of Accountancy, "New Guidance Clarifies Tax Treatment of Bitcoin and Other Virtual Currencies", Alistair M. Nevius, JD, March 25, 2014

Reduce Tax-Time Stress!

Reduce Tax-Time Stress!
Start Collecting Your Tax Records Now

• Paperwork necessary to file your income taxes? 
• What should you keep? 
• Here is a checklist of some common items needed at tax time:

Income

• W-2s 
• 1099s for miscellaneous income 
• Proof of alimony 
• Interest and dividend income statements 
• Social Security (1099-SSA) and pension income statements 
• Retirement plan distributions (1099-R) for contributions, distributions, & rollovers 
• Brokerage statements (1099-B) 
• Profit/loss K-1 statements from partnerships, trusts, and small business 
• Proof of other income (jury duty, child support, etc.) 
• Income/expense from rental properties, self-employment, and hobbies 

Deductions

• Mortgage Interest (1098) 
• Real estate tax documents 
• Expenses: moving, education, child-care, mortgage and student interest, IRA contributions 
• Charitable donations (cash and non-cash) receipts 
• Health care expenses 
• Casualty and theft loss documentation 
• Un-reimbursed employee expenses 
• Receipts for qualified energy efficiency purchases 
• Documents for the purchase, sale, or refinance of your home 
• Motor vehicle registration receipts 
• Gambling profit and losses documentation 
• Mileage logs for business, moving, medical, and charitable travel 
• Job related expenses 
• Tuition payments (1098-T) 

Other

• Cost information for any investment or property sale 
• Full information on any dependents (DOB, age, any income, etc.) 
• Education information for all qualifying family members 
• Review all checking account and credit card statements for deductions 
• Identify any estimated tax payments made during the year 
• Copies of any tax refunds 
• Year-end payroll check stub 
• Recap of any gifts received or given in excess of $14,000

Internal Controls Review

Internal Controls Review

Companies should start by identifying the weaknesses in their financial processes and structures that make fraud easy, such as a lack of internal controls, loopholes in business processes, or the easy availability of check stock on-site.

Management should consider implementing some or all of the following:

• Separation of duties -- so that no one employee has sole control of the entire process.
• Manual controls -- so that fraud can’t slip by as part of an unmonitored process.
• Limited access to accounts and the ability to make payments -- so that staff can’t manipulate systems they’re not supposed to, and so that you’ll know exactly who could have made potentially fraudulent entries or changes.
• Require double signatures -- so checks can’t go out on the fraudsters say-so alone.
• Get daily check reports -- so that frauds can be caught quickly.
• Securely store check stock.

“Everything someone needs to steal money from your company or a client is right there on the check,” Lacerte noted, before adding that, while securing check stock was important, it would be far better to move beyond paper checks entirely. “Paper is one of the biggest problems when it comes to fraud. You have to go paperless.”

Electronic invoicing and payment solutions like Bill.com and others not only eliminate the weak spot of having check stock in the office -- they also offer many opportunities for limiting access, monitoring payment activity, enforcing payment controls and separation of duties.

Source: accountingTODAY

Rene Lacerte, Las Vegas (November 05, 2013)

20 tax tips for small businesses

20 tax tips for small businesses
The Internal Revenue Service sent letters to thousands of small-business owners recently, questioning whether they underpaid their taxes last year. 

Titled “Notification of Possible Income Under Reporting,” the letters were mailed to small employers this summer requesting that they review and confirm that they accurately reported their income on their 2012 tax returns.

In response to this action by the IRS, American University professors Donald Williamson and David Kautter have created a list of “Tax Best Practices for Small Businesses,” a checklist designed to help small business entrepreneurs stay up to date on all tax-related issues, and away from the scrutiny of 
the IRS. 

Here’s what Williamson & Kautter recommend small-business owners should do: 

1. Keep good records about who is an “employee” and who is an “independent contractor.” 
2. Keep track of places where you may have "nexus" (“physical presence”) (even unknowingly), to properly comply with state rules governing sales and income tax collection. 
3. Invest in a good software accounting system — to track your records and regularly provide updates to new IRS rules. 
4. Hire a tax accountant who has experience in your type of business, whether it’s a coffee shop or a construction business. 
5. Keep good records on how much was paid and the date placed in service, for any equipment, vehicles or other business assets. 
6. Avoid using funds from employee payroll tax withholding (or any taxes, for that matter) as a short-term loan to tide your business over during a shortfall in your cash flow. 
7. One of the biggest traps for small-business taxpayers is estimated taxes — pay quarterlies on time, calculate quarterlies correctly, and know the safe harbors that can protect you against underpayments.  Miscalculating any of these steps can be a major headache, so small-business owners should speak with someone, most likely a tax accountant or enrolled agent, who knows the rules cold. 
8. If you are the owner, and your spouse, child, mother-in-law, or other close relative works in your business, you should make sure your relative abides by the same employment rules as your unrelated employees. When someone pays you in cash, it doesn’t mean that payment is nontaxable.
9. Select a “tax year” for your business that reflects the natural ebb and flow of your business’ receipts and disbursements. This way, you won’t get caught in a cash crunch when tax time comes. 
10. You (or your accountant) should retain all relevant tax records for at least three years, and if your records relate to property and depreciation, you should keep the records until the property is disposed of, plus an additional three years. 
11. Keep detailed records on how you use your personal or business-owned vehicle for business versus personal purposes. 
12. Hire a reputable third-party administrator (such as Fidelity or Vanguard) to manage your 401(k) plan and other tax-favored employee benefits. 
13. Make sure you (and your tax accountant) are familiar with the tax rules, including the favorable tax credits and deductions that are unique to your business. 
14. If it becomes necessary for your small business to open a foreign bank account in order to pay vendors or others in a foreign country, make sure you (and your tax accountant) are vigilant in following the new rules on foreign bank accounts enacted in the Foreign Account Tax Compliance Act, or FATCA. (FBAR reporting)
15. If your hope is that your business will continue after you die, under the leadership of another family member or designated heir, you should take steps to protect the business against a forced sale in order to pay inheritance taxes. 
16. Don’t become foolishly emboldened into thinking the IRS will have to “prove” you have done something contrary to the tax law. The "burden of proof" is always on the taxpayer, not the IRS. 
17. Become familiar with the tax rules surrounding starting, running, selling and shutting down a business. Determine whether you should operate as a Partnership, Corporation, S-Corp, LLC, or Sole Proprietorship. Your tax accountant should be closely familiar with these rules. 
18. Have a one-on-one conversation with your accountant about the Affordable Care Act. 
19. If you can’t pay the taxes you owe the IRS, or other tax agency, you should contact your accountant right away. The situation won’t get any better by ignoring it.
20. When someone pays you in cash, it doesn’t mean that the payment is nontaxable. The IRS has state-of-the-art statistical technology and models based on spending habits and bank accounts to build a case against alleged tax scofflaws.

Courtesy:  accounting today | October 2013 accountingtoday.com

Donald Williamson & David Kautter

Landlord Tax Advice

Landlord Tax Advice
Landlords can calculate how much tax they have to pay by adding the rent money they receive to any other taxable income they earn.  The rate of tax they have to pay depends on what their overall income (salary plus rent) is for the tax year, minus any deductible expenses.  The expenses landlords can offset against their tax liability for rental income include:

• Interest payments on a mortgage.
• Repair and maintenance – e.g. plumbing and gardening
• Wear and tear – if a property is furnished, cost of appliances and fixtures
• Depreciation - straight line: residential building 27.5 years; commercial building 39 years 
• Energy efficiency investments - tax credits
• Property taxes
• Fees and bills – e.g. utility bills, landlord insurance, and rental agency fees
• Other related costs – e.g. advertising the property

If you really want to make life easier, ensuring good record keeping is key. Keep all receipts, no matter how small, they all add up.  Most importantly, set up a separate bank account so you can track what is going in and what is going out via your bank statements.  

We advise landlords to create a spreadsheet to record all of their incomings and outgoings.  When the time comes to filling out a tax return, this spreadsheet will make the process a lot easier, further down the line.

Advantages & Disadvantages of Business Forms

Advantages & Disadvantages of Business Forms
Choosing the Right Business Form
Overview:  There are three basic business forms available for most business owners:

• Proprietorship (Schedule C)
• Regular Corporation (C Corporation)
• S Corporation

The matrix on below provides an excellent overview of the differences.  This section highlights important strategies for the different forms of business.

Description	Schedule C Proprietorship	Regular Corporation	S Corporation
Reasonable salary*	Not an issue	Deductible	Deductible
Unreasonable (excessive) salary	Not an issue	Not deductible by corporation;  dividend to shareholder/employee	Generally, not an  issue for shareholder/ employees
Social security taxes	Self-Employment tax based on bottom-line Schedule C income	Taxed 50% to  corporation and 50% to employee	Same as regular corporation
Net income	Taxed at individual tax rates	Taxed at corporate tax rates	Taxed at individual tax rates
Net loss	Deducted on individual return against other income; unabsorbed losses may be carried back 2 years and forward 20 years	Net loss on corporate return is carried back 2 years and forward 20 years	Deducted and carried back  and forward  on individual  return up to shareholder’s  basis in stock and loans  to corporation
Medical insurance premiums on owner	Deduct 100% on front of Form 1040	Deducted on corporate return	Same as proprietorship including ability to deduct 100% on front of Form 1040
Disability premiums on owner	Not deductible	Deductible to corporation; taxable to recipient of benefits	Not deductible by corporation or individual
Group term life insurance premiums on life of owner	Not deductible	Deductible as a tax-free fringe benefit on first $50,000 of coverage	Not deductible
Retirement benefits	Basically same as corporation	Basically same as individual	Basically same as individual
Supper money for owner	Not deductible	Deductible	Questionable
Election required	No	No	Yes – strict time limits
Ownership	Individual	Stock can be more than one class	Only individuals, estates, and trusts restricted to one class of stock (voting rights can differ)
Liquidation of ownership	Assets are sold and individual is taxed	Sale of stock or sale of assets and liquidation of corporation (double-tax problem)	Sale of stock or assets, no double tax problem, except for “built in gains”
Liability	Individual	Corporate, except for professional   corporations  wherein  professionals  remain liable under malpractice statutes	Same as regular corporation
Asset expensing IRC §179	Up to $500K if assets placed in service total less than $2MM	Claimed on  corporate return  with same  limits that apply  to an individual	Reflected on S Corporation  return and claimed  on individual return
Paperwork	Simplest form	Two separate entities for income tax purposes… payroll taxes… corporate minutes	Same as regular corporation;  however, may involve  more complex  state filing requirements
Hiring child	No social security tax if child under 18	Social security taxes apply	Social security taxes apply (may gift stock to children and eliminate social security on distribution, in addition, can still benefit from shifting income).

* Reasonable compensation:  Services performed by shareholder/owners must be reasonable compensated.  Reasonable compensation is subject to wide discretion. (Roob v. Commissioner, 50 TC 891, 898 (1968).  See Radtke vs. US; 712F. Supp. 143; Aff'd 895 F.2d 1196 (1990) in which no compensation was paid).   It must take into account: 

• Services performed
• Responsibilities involved
• Time spent
• Size and complexity of business
• Prevailing economic conditions
• Compensation paid by comparable firms for comparable services
• Salary paid to company officers in prior years

General Rules of Thumb

1. High medical expenses -- regular corporation
2. High disability premiums -- regular corporation
3. Income $20,000 to $70,000 -- S-Corporation to save social security taxes
4. High liability exposure -- corporation
5. Hiring children -- Sole proprietorship
6. Gift/Leaseback -- any form, but assets must be owned individually to create benefits
7. Appreciating assets -- S-Corporation or proprietorship

Reference:  Botkin, Sandy, Tax Strategies for Business Professionals, The Tax Reduction Institute

Bookkeeping & Accounting Issues

Bookkeeping & Accounting Issues
A business that is either just starting out or undergoing a significant growth stage must deal with four main issues in regard to recordkeeping: the use of the most appropriate "tax year;" whether to use a cash vs accrual method of accounting; maintaining a good recordkeeping/bookkeeping system; and, having a working knowledge of the major IRS reporting requirements for various payments.

The right decisions in these matters help increase the chance of business survival and of maximizing business profits.  In addition, it can make matters much easier in dealing with such groups as the IRS, your state tax authority, an insurance carrier, outside investors, and accountants.  This can save you time, aggravation, and money.

Use of the Most Appropriate Business Tax Year
A business may be required to choose between two different tax year periods: a Calendar Year or a Fiscal Year.  A calendar year is one which ends on December 31.  A normal fiscal year consists of 12 consecutive months ending in a month other than December.  The business must establish which of these two options it will use for its operational life.

Why would a fiscal year be chosen?  Many businesses use a fiscal year to match the business cycle–take advantage of the highs or lows.  Others do it for convenience of recordkeeping.  Getting information ready for doing taxes or financial reports can be time consuming, so a fiscal year that ends during a lull period gives the owners a more efficient time frame to do the recordkeeping activities.  Businesses where inventory(and inventory-taking) is a big factor frequently elect fiscal years.

Similarly, businesses where the cash flow may differ from a calendar year period may decide on a fiscal year so money will be available to pay any required income taxes.  In brief, a fiscal year may be more beneficial than a calendar year for a business where the preferred operating or income cycles end other than December 31.

From an income tax reporting standpoint, there are some business types that are either limited in the choice, or must make a special application to get permission to use a specific choice.  This is due to the so-called "default" issues related to certain types of  entities in which they are restricted in their selection.

In this regard, businesses that are either sole proprietorships, partnerships, or special subchapter S corporations must generally use a calendar year for income tax filing purposes.  Regular C-type corporations can usually elect either calendar or fiscal without any restrictions, unless they fall under the classification of a "personal service corporation." In that case, a calendar year would also become the required default choice.  A personal service corporation is one in which the principal activity consists of personal services done by owner/employees.

There are ways in which a business may still be able to qualify for a fiscal year selection instead of a required calendar year.  The IRS may grant special permission to use other than the required tax year if the business can prove it has a definite "Business purpose" for another tax period.
For instance, a business that is highly "seasonal" in nature where the main activities have monthly "peaks and valleys" that do not end on December 31 would be a good candidate.  A tax preparation business where April is the dominant month is a good example; certain farming related businesses also fall into this category.

Other determining areas might be such things as the use of a fiscal year due to employee hiring patterns, consumer buying patterns(swimming pools, boats, etc.), regulatory purposes, or model year changes, to name a few.  Reasons that CANNOT be used to get out of using a required tax year revolve around a business purpose that causes a significant shift in income or deductions such that it reduces potential tax liability.

Another way for certain business types to use a tax year different from a required tax year is to make a Section 444 Election.  This is done by filing IRS Form 8716, "Election To Have A Tax Year Other Than A Required Tax Year." This may work for partnerships, personal service corporations, and subchapter S corporations where the "business purpose" test doesn't apply.  This involves meeting various deferral period requirements and possibly making a payment if there are any calculated tax benefits from this deferral into a fiscal year.

Change In Tax Year: If you decide to try to change an existing tax year, an IRS Form 1128, "Application To Adopt, Change, Or Retain A Tax Year" must be filed.  This is due before the 15th day of the second calendar month following the close of the prior tax year.

Cash Vs Accrual Accounting Methods
Under IRS definition, an accounting method is a set of rules used to determine when and how income and expenses are reported.  Normally for IRS purposes, the accounting method–cash vs accrual–is chosen before you file the first business income tax return.  It must then be used on a consistent basis for the life of the business, unless changes in the business occur that statutorily necessitate a change in the accounting method.  If you wish to change methods for particular reasons of your own, you must get written permission from the IRS.

Normally, you calculate your income and expenses by using three major methods: 1) Cash Method; 2) Accrual Method; or, 3) Hybrid Method in which select elements of cash and accrual are combined.

Cash Method 
This is used by most sole proprietorships, and many businesses where inventory is not a major factor.  In this method, income is reported when actually(or constructively) received, and expenses are deducted when paid or legally charged(like with a credit card).

"Constructive receipt" means the money is made available to you without restriction.  It doesn't always mean you have to have it in your possession.  If it is credited to you, or given to your agent, it is still considered constructively received by you.

Expenses that you pay for are generally deducted in that particular year, unless you have substantially prepaid expenses that actually were for another year.  As an example, if you prepay a three year service contract you cannot deduct the full three years of expense in one year.  You would have to allocate the cost instead.

Note that there are restrictions on which type of business can and cannot use the cash method.  Generally, this method can be used by sole proprietors, corporations with less than $5 million dollars in gross receipts (current 2000 year rules), most general partnerships (unless a C Corporation is one of the partners), and farm businesses with less than $25 million dollars in gross receipts.

Tax planning opportunities exist with the cash method if you can time your constructive receipt of the income in such a way as to push it into another tax year.  When you bill the client, when you actually receive the money and bank it, and when the job and its guarantees reach completion can each define when you have to report the income.

As to taking expense deductions, buying and placing into use such things as business equipment and supplies can be equally timed.  Advertising, marketing, and employee bonuses can also be timed to best suit you for tax planning purposes.

Accrual Method 
Using an accrual method, income is reported in the year it is earned, not necessarily received, and expenses are deducted in the year they are incurred, not necessarily when paid.  From the gross receipts perspective, an accrual method generally means you report the income when the client is billed and/or has received your service or product.  So if you finish a job and bill the client this December 2000,  but don't get paid until January 2001, the income is reported in 2000 under the accrual method.  Note that there are certain exceptions to this if the business transactions involve "related persons, entities, and controlled groups" but this is relatively rare for the scope of this discourse.

Unlike the cash method of accounting, accrual methodology can also involve making adjustments to reported income for bad debt allowances.  If you report income when billed, but do not end up collecting all that is due you, you then may be able to write off the non-collectible portion as a business bad debt.

In regard to business expenses, you deduct or capitalize these when you become liable for them.  This liability issue involves meeting the "events and economic performance" rules.  Before taking the deduction, all necessary events that create the liability must have happened, and the economic performance of the action must have occurred.  Thus, if the expense is for materials, property, or services you incur in the production of income for your trade or business, economic performance occurs as you provide your service or product.

Tax planning avenues that may be open to accrual type operations involve the attempt to defer income into a future year, and accelerate expense deductions into the current year.  In this way, the net income from the business may be lowered for the current year at the expense of the next year.  This may be possible by arranging it so the job you are doing is not fully completed before the close of the year, in which case the receipts collected don't necessarily have to be posted as taxable income at that point.  You get the cash, but defer paying taxes on it until a later date.

Similarly on the expense side, you would attempt to accelerate expenses into the current year so the bill you receive can be written off even though you haven't paid for it yet.  This type of tax deferring can be beneficial in two ways.  First, from a "use of funds" perspective it may make sense since you will have an extra year's use of the tax money you have delayed.  Second, if your business experiences relatively large swings in taxable income from year to year, this is a way of "levelling off" the taxable income, thus possibly lowering the marginal tax bracket and actually saving taxes overall.

So if you are billed for office equipment placed into use in December 2000, but don't pay for it until January 2001, the deduction is taken in 2000 under an accrual method.

While the use of an accrual method may be elective for most, a business that maintains inventory as a significant part of the production of income(stores, manufacturers, wholesalers) must use some form of accrual based accounting for the purchases and sales of the particular products in question.  The full cash method is generally not allowed in this case.

Hybrid Method 
This combination of cash and accrual may be allowable if you can clearly show income and expenses in a consistent methodology.  If you have two distinctly different businesses, you may use a cash method for one, and an accrual method for the other.  If inventory is a significant part of your business, you could use accrual for purchases of inventory and sales of these items, but you may use cash methods for all other income and expense items.

However, there are limitations.  If you elect the cash method for income, you must generally use the cash method for expenses.  Conversely, if you elect accrual for expenses, you must use accrual for income.

Within this hybrid method there may be different elections as to how income will be reported.  As an example, a completed contracts method may be elected for income.  This may apply to a construction-type business where the projects take more than one year to complete.

Minimum Bookkeeping System Requirements
Maintaining a good, acceptable bookkeeping/recordkeeping system should not be solely to satisfy the government.  There's no question that the more successful businesses also have more efficient bookkeeping systems in place.  This is because a good bookkeeping system can give a business the timely information it needs to increase profit-making opportunities.

A good bookkeeping system can help the business answer many important questions such as:

○ How much business is being done?  
○ How much cash is on hand?
○ How much is tied up in receivables, and how old are these receivables?
○ Should credit continue to be extended?  
○ Should collection action be taken?
○ What are the expenses by categories?  
○ What are the important business ratios that should be analyzed?
○ Are sales, expenses, capital, and profits showing improvement over previous periods?  
○ Where is the break-even point?    
○ How does this business compare with others of its size and industry?
○ What is the projected income tax bill going to be, and how can this be minimized?
○ Is payroll at its optimum level, and is there enough cash coming in to meet payroll?

A good bookkeeping system allows the business owner and accountant to create and review important business ratios, profit and loss statements, balance sheets, customized management reports, reconciled bank statements, and required tax return information.

Requirements of a Good System
For most businesses, especially privately-owned ones, an adequate recordkeeping system should be relatively simple to use and understand, accurate, designed to provide timely information, consistent in its treatment of income and expenses, reliable, and exportable in its context.  The last feature refers to how easy it is for others besides the one recording the information to be able to understand, compile, and make adjustments to the information for their own purposes.  Tax accountants, bankers, outside investors, shareholders, and actual business owners fall into this group.

Single Vs Double Entry: There is sometimes a choice between these two types.  A single-entry system is the easier to keep, and also the more limiting for information, auditing, and accuracy-checking purposes.  In single entry, an income or expense item is posted once with no other account offsets.  For simple, one-person sole proprietorships where the owner also pays the bills, collects the income, does the bookkeeping, and where managerial reports are secondary, this system is easier to use and understand.  A single-entry system tends to concentrate primarily on the profit and loss statement and not the balance sheet side, so it is really only a partial system.

The double entry system involves the use of journals and ledgers to track profit and loss and balance sheet items.  Transactions are entered into a journal, then summarized in ledger accounts.  These include income and expenses, assets, liability, and capital accounts.  Unlike the single-entry, the double entry system is designed to be self-balancing.  Every entry involves both a debit and credit in which the ultimate sum of the debits equal the sum of the credits.

At given periods(usually monthly, quarterly, annually), financial statements can be prepared which usually center around the Income Statement and the Balance Sheet.  The income statement is similar to a profit and loss statement in that it reflects the income and expenses for the period.  The Balance Sheet shows the business financial position at a given point in time in regard to assets, liabilities, and capital.    While more complicated to maintain, double-entry systems allow for much more flexibility and standardization.  They help to minimize errors, and possible embezzlement problems.  Further, for businesses that may require audited, compiled, or certified financials (for investors, or lenders, etc.) double-entry systems are definitely the preferred way to go.

Features of an Adequate Bookkeeping System
Whether single entry or double entry is selected, a bookkeeping system should have as a minimum the following component parts:
1)  Income Register: This records and details money received by the business.  It's especially important from a tax audit standpoint to be able to track the nature of the business deposits and differentiate between taxable and nontaxable sources.  This income should be in balance with your bank statements, and supported by sales slips, invoices, register tapes or any documents used in the sales process which are stored separately.
2)  Disbursements Record: This classifies, categorizes, and summarizes the expenses paid out for the business.  Reimbursements and cash payments are handled the same way as checks.  These expenses are recorded according to the date, check number, amount, and expense category.  Further, all expenses should be backed up with an invoice or cash receipt which are stored separately.
3)  Petty Cash Vouchers: For minor, incidental expenses where writing a check would be a nuisance(such as for office coffee, stamps, etc.), the use of a petty cash system is recommended.  A check is written to fund the petty cash box for a designated amount.  Money is taken out to pay for these small items(usually under $5), and the receipts are recorded on petty cash vouchers.  Periodically, another check is written to replenish the petty cash fund.
4)  Travel & Entertainment Reports: For tax purposes, contemporaneous records must be kept for such expenses as food and entertaining, use of vehicle, outside travel, and other employee paid business expenses to be reimbursed.  This T & E log breaks down the expenses per employee, and per category.  In addition, back-up receipts where required for these expenses must be stored in case of audit.
5)  Equipment Register: This records all assets/equipment bought or disposed of by the business.  It shows the dates involved, purchase amounts, check number, supplier's names, and disposition details.  For calculating depreciation, and any tax consequences upon disposition, this register is highly recommended.
6)  Payroll Register: A separate, detailed record is in order for controlling various aspects of payroll.  Records verifying the accuracy of how payroll is calculated, taxes are credited and deposited, overtime is calculated, etc., are mandatory.
7)  Insurance Log: Business insurance policies are identified and detailed as to the type of coverage, premium costs, policy numbers, name of insurer, effective policy dates, and expiration dates(to avoid unwanted loss of coverage).
8)  Accounts Receivable Control Ledger: This helps you keep track of who owes the businesses, how much is owed, and for how long it has been owed.  It is essential to maximize your cash flow situation, and to minimize business bad debts.  Accounts receivable are usually tracked according to their "age" using 30 day, 60 day, 90 day, and 180 day cycles.

Please understand that these eight features represent the minimum for an adequate bookkeeping system.  The nature and type of business dictates what other features or customization should occur.  In fact, many business types customize their systems; restaurants, automotive businesses, manufacturing, and others have their own particular nuances that need to be considered in setting up a system.

IRS Reporting Requirements for Payments
Businesses may be required to send notification to the IRS and state tax authorities for payments made in diverse areas.  These are usually called "information returns" in which the business discloses to the government the nature of the payment, the amount, and to whom the payment was made.

Generally, these forms are required to be distributed to the recipient of the payments as well as to the government.  For IRS purposes, they are usually due on or before February 28 of the year following the year of payment.  There may be penalties charged to any business that fails to file these information returns.  Some of the most common filings are:

Form 1099 Misc: Payments in excess of $600 per individual for services rendered (such as subcontractors, landlords, other nonemployee compensation).
Form 1098:  For payments of mortgage interest in excess of $600 to individuals on loans owed by the business.
Form 1099 DIV:  Payments in excess of $10 per recipient for dividends, and stock dividends.
Form 1099 INT:  For payments in excess of $10 to recipients of interest income.
Form 8300:  Report of cash payments received by a business in excess of $10,000 per transaction or related transactions.
Form W-2:  Payments to employees for wages, tips, and other compensation.  No dollar limitation.

There are many other possible information returns that may be required for different business activities and business types.  However, these are the main ones that tend to impact most average businesses.  When in doubt as to the ones required in your business, check with the appropriate professional before the year ends.

A Word on Computerized Systems
With today's explosion of the use of data processing systems, more and more businesses of all sizes are using computerized recordkeeping systems.  There are no government restrictions or limitations on these systems as long as they meet the same tests and requirements as manual ones do.

The IRS position is that you must be able to show records that provide the necessary information to determine correct tax liability in a way that the auditors can track.  The documentation must show the applications performed, the procedures used in each application, and the controls at hand.  In other words, the computerized system must provide an adequate audit trail back to the original source of entry.

Using Outside Accounting Services
Many firms elect to use outside bookkeeping and accounting services to handle the major aspects of the recordkeeping–especially as it relates to government tax filings.

This may be the most efficient use of a business owner's time.  To try to be an expert in accounting, and to try to keep up with the changes that occur in the field can be prohibitive for a business owner.  So the use of a professional to help design, change, and implement the necessary bookkeeping systems is certainly a viable option.   

Conclusion
Decisions on accounting and bookkeeping issues are important for businesses, especially in the early stages.  The purpose is twofold:
1) To meet government tax filing requirements, AND, 
2) To increase the business chance for success by providing timely, efficient, and informative data with which to make comparative choices.

While it is usually easier to make these choices at the start of the business operation, this is not always possible.  Businesses change along the way.  In fact, running a business is not a static event; rather, it is a dynamic.  These changes may necessitate corresponding changes in the accounting method, year, or bookkeeping system being used.

With few exceptions, it is strongly recommended that a business owner consider using an outside professional for at least some of the decision-making process here.  The expeditious use of this type of assistance in the earlier stages of development can go a long way toward achieving the maximum business success possible.

Reference:  Practice Enhancers, Able & Co.