Friday, May 8, 2009

Reporting Income

When preparing income tax returns, reporting income is very important. One reason is that the IRS will perform a “tax match” once they receive your return. The IRS will “match” the income listed on the return to the income they have on file that has been reported that you have earned.

Reporting income falls under the category of Accounting Methods and can be read in detail in IRS Publication 17. There are two methods of accounting, cash and accrual. Constructive receipt, garnisheed wages, debts paid for you, payment to a third party payment to an agent and checks received or available to you are cash methods of accounting. Income paid in advance would fall under the accrual method.

Knowing and understanding what constitutes “income” for reporting purposes is very important. Mistakes in this areas can be costly. If, when the IRS performs their tax match, they determine a taxpayer has underreported their income this triggers an investigation and the IRS will send the taxpayer a CP 2000, underreporting of income letter. If a taxpayer is sent this letter it would be wise to get a tax professional involved. The tax return must be amended and re-submitted to the IRS and then managed thru the process to avoid having the return rejected.

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