Q&A: No 1099, No Deduction?

Have you ever been told by an auditor or accountant that not issuing A 1099 to a vendor means no deduction on your tax return? Does it sound unfair that neglecting this filing requirement costed you big $$ on your tax bill? The information below was provided to us from Bradford Tax Institute. 

 

Q&A: No 1099, No Deduction?

 

Question

 

I didn’t issue Form 1099s to my contractors in 2017.

 

The IRS is auditing my 2017 Schedule C, and the auditor said I can’t deduct the contractor payments because I didn’t issue Form 1099s.

 

Is this correct?

 

Answer

 

IRS auditors often make this claim, but they are incorrect.

 

Deduction

 

Compensation for services rendered to your business is a deductible business expense, provided that your expenses are ordinary and necessary and reasonable in amount.1

 

There is no provision in the tax law that denies you a deduction for labor expenses simply because you didn’t file the required Form 1099s.

 

But the tax court has stated that the non-filing of required Form 1099s can cast doubt on the legitimacy of the deduction claimed.2

 

Proof of Payment

 

As with any deduction claimed on the tax return, you have to keep sufficient records to substantiate the deduction amount.3

 

If you had filed Form 1099s, then this would have been solid documentation to help prove the expenses to the auditor.

 

But since you didn’t file Form 1099s, 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

 

Ultimately, to prove your deduction in a court of law, should you have to go that far, you’ll need to show by a preponderance of the evidence 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.

 

Potential Penalties

 

The cost of not filing Form 1099s surfaces a financial penalty.4

 

For the 2019 Form 1099s, the potential penalties are5

 

· $270 per Form 1099, or

· $550 per Form 1099 if the IRS determines that you intentionally disregarded the requirement.

 

Avoid Trouble—Avoid 1099s

 

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 corporation6

· Payments made to a limited liability company taxed as a corporation7

· Payments made by credit card or a third-party payment network such as PayPal.8

 

For more, be sure to read Three Strategies That Avoid 1099 Reporting and Penalty Headaches.

 

Takeaways

 

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, 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 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.

 

 

December 28, 2021 | DWHuff Consulting

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