Nolo's Small Business Legal Blog

Because you're human, you may not have kept all the records required to back up your tax deductions. Don't despair, all is not lost--you may be able to fall back on the so-called Cohan rule. This rule (named after the Broadway entertainer George M. Cohan involved in a tax case in the 1930s) is the taxpayer's best friend.

The Cohan rule recognizes that all business people must spend at least some money to stay in business, and so must have had at least some deductible expenses, even if they don't have adequate records to back them up. If you're audited and lack adequate records for a claimed deduction, the IRS can use the Cohan rule to make an estimate of how much you must have spent, and allow you to deduct that amount. However, you must provide at least some credible evidence on which to base this estimate, such as receipts, canceled checks, notes in your appointment book, or other records. Moreover, the IRS will only allow you to deduct the least amount you must have spent, based on the records you provide. In addition, the Cohan rule cannot be used for travel, meal, entertainment, or gift expenses; or for listed property.

If an auditor claims you lack sufficient records to back up a deduction, you should always bring up the Cohan rule and argue that you should still get the deduction based on the records you do have. At best, you'll probably get only part of your claimed deductions. If the IRS auditor disallows your deductions entirely or doesn't give you as much as you think you deserve, you can appeal in court and bring up the Cohan rule again there. You might have more success with a judge. However, you can't compel an IRS auditor or a court to apply the Cohan rule in your favor. Whether to apply the rule and how large a deduction to give you, is within their discretion.

For more information, see Deduct It! Lower Your Small Business Taxes, by Stephen Fishman.

You should keep your business and tax records for as long as the IRS has to audit you after you file your returns for the year. These statutes of limitation range from three years to forever. To be on the safe side, keep your tax returns indefinitely. They don't take up much space, so this is not a big hardship. Your supporting documents probably take up more space. You should keep these for at least six years after you file your return. Keeping your records this long ensures that you'll have them available if the IRS decides to audit you.You might also need them for other purposes--for example, to get a loan, mortgage, or insurance. Keep your long-term asset records for three years after the depreciable life of the asset ends. For example, keep records for five-year property (such as computers) for eight years. You should keep your ledger sheets for as long as you're in business because a potential buyer of your business might want to see them. For more information, see Deduct It! Lower Your Small Business Taxes, by Stephen Fishman.

There is no best accounting method. Each method has its advantages and disadvantages. The cash basis method is much simpler to use and easier to understand. You don't report income until it's actually received, so it's more advantageous than the accrual method if you're in a business in which you're paid slowly. The accrual method is more complicated than the cash basis method, but you get a truer picture of your net profits for any given time period because income earned in one period is accurately matched against the expenses for that period. So you see the ebb and flow of business income and debt. Moreover, the accrual method is more advantageous than the cash basis method if you are paid promptly by your clients because you are allowed to deduct expenses when you incur them, not when you actually pay for them.

When you are paid promptly, the cash method's actual receipt rule is not important; and, using the accrual method, you may prepay business expenses in advance to offset the income you received for the year -- something you can't do with the cash method. Any business can choose to use the accrual method but some businesses (mostly larger-sized ones) are required to use it. For more information, see Deduct It! Lower Your Small Business Taxes, by Stephen Fishman.

More and more businesses are using Facebook to market and promote their business. As reported in a recent New York Times article "How to Market Your Business With Facebook," there are 300 million people on Facebook--a vast audience of potential consumers. By creating a Facebook Page, small businesses can build their own online communities of fans and customers through targeted marketing that reaches those most likely to be interested in their product or services.

Clara Shih, author of "The Facebook Era" (Pearson Education, 2009) recommends that businesses start small and have a clear objective in mind--for example, getting more customers in the door. Then create a strategy to accomplish that goal. The owner of a cupcake bakery called Sprinkles increased its fan base and store traffic by posting a password on its Facebook page every day that could be used to redeem a free cupcake at the store. A simple, focused, and effective strategy.

Some other basic rules from the experts: Don't use Facebook just to market and push your product or services. Create a site that is inviting to users, reflects personality, and is interactive. Liven it up with news, useful information, and promotions--and keep it current. Also, be sure to listen to your users so you can see how you are doing and what changes you may want to consider based on the feedback you get from your online fans.

Having good business credit is essential for any small business trying to obtain financing, especially in today's tightened financial climate. There are steps that small business owners can take to improve their credit profile and put themselves in a better position with lenders. Businesses also need to establish their own separate credit history as opposed to relying on the personal credit history of the business owners as frequently happens with new or small businesses.

According to a recent Wall Street Journal article, the three most effective credit building strategies for small businesses are:
1. Keep good books and records. Get an accountant to review your finances. This adds credibility to your business and finances for lenders. Think about forming a business entity if you're a sole proprietor. Keep your business licenses up-to-date.
2. Build your business credit through your vendors. Do business exclusively with companies that can report your credit to credit-reporting agencies like Dun & Bradstreet. Register with these commercial credit agencies and check your credit report each year.
3. Be fiscally responsible. Always pay your bills on time. When you go to borrow money, do it for revenue generating items, like essential equipment and staff, not less essential or nonrevenue producing items.

 

After first appearing on the scene last spring, the H1N1 virus--also know as swine flu--is back. Small businesses are scrambling to figure out how to cope with what promises to be a challenging fall and winter. Aside from employee absences and staffing issues, concerns about a flu epidemic raise a host of other issues for small businesses, like maintaining employees' health privacy and creating effective sick policy rules. A recent Wall Street Journal article provides advice and resources for businesses trying to figure out how to best prepare for this year's flu season.

The article discusses some preventive measures businesses can take, such as offering flu shots or time off so employees can get flu shots. Another is to keep the workplace more sanitary by frequently cleaning surfaces and having hand sanitizers available. Businesses may need to review their sick policies or create new ones, possibly adding more sick time so employees don't come to work sick. And businesses may want to cross-train employees or offer telecommuting as on option for employees who are home with a sick family member.
For more information, see Planning for 2009 H1N1 Influenza: A Preparedness Guide for Small Business. The Centers for Disease Control and Prevention also has information for businesses on its website at www.cdc.gov/h1n1flu/business/toolkit/.