Preparing for Tax Time
by Ginita Wall, CPA, CFP

Oh, yuck, that time of the year is here.   I love new beginnings, but I sure don’t love dwelling on last year’s mess.

Unfortunately, this time of year we all must sort through last year’s transactions so that we can render taxes unto Caesar (also known as Uncle Sam).

Here are some tips for organizing your records and dealing with the IRS.

How to prepare for tax time

1. Gather together W-2s and 1099 forms. During January you’ll receive a myriad of year-end reporting forms. Your income from employment will be reported to you on Form W-2, or Form 1099 if you are paid on commission with no withholdings. You will also receive a 1099 form for other payments you receive, such as interest, dividends and the proceeds from the sale of real estate or securities.

Don’t lose these forms! This information must go on the tax forms you send to the IRS, and you don’t want to have to reconstruct it (or worse, pay your tax preparer to ferret out the information.)

2. Report everything. You must report all the taxable income you receive from whatever source, even if you don’t receive a reporting form from the payer. Review your bank statements and check registers to be sure you have listed every bit of income you received. If you received a check in December but did not deposit it until after January 1, it is still taxable income to your for 2001.

3. Claim all deductions. Review the deductions you claimed on last year’s tax return. Then sort through your monthly bank statements and removed from each statement the canceled checks representing tax-deductible items.

Be sure to review your January bank statement to remove checks written in the prior year that had not cleared by the beginning of the new year, since they are deductible for the year written. Also review credit card statements and flag deductible expenditures that appear there.

4. Compile information into categories. Sort the deductible checks into groups, such as donations, taxes, medical and dental, interest, and miscellaneous deductions. Locate the receipts for bills that you paid with cash, and place them together with the canceled checks. Also list amounts that you paid by credit cards.

Total the checks and receipts for each category, and transfer these totals to a summary of your tax-deductible items.

5. File away the records. After summarizing your tax data, insert the checks and receipts into #10 envelopes and file by category. Place all the envelopes in a large manila envelope labeled "2001 Tax Information." The checks and receipts will then be readily available in proper order in the event of a future tax audit.

Federal law says you must keep the records needed to substantiate all your income and deductions, and they must be available for inspection by the Internal Revenue Service. This doesn’t mean you don’t have to spread them out on the coffee table in case someone from the IRS knocks on your door. But upon reasonable notice from the IRS, you must be able to produce the records for an audit.

6. Retain the records you’ll need. Except in the case of fraud, the IRS must audit your return within three years from the due date of the return or the date of filing, whichever is later. But you should retain he following records for a longer period of time, even though the statute of limitations has expired.

Prior tax returns. Keep copies of all tax returns you have filed in the past. These returns are helpful in preparing future tax returns, and they may be of value to the personal representative for your estate sometime down the road.

Payment of taxes. Keep cancelled checks that prove that you paid your taxes when due. The IRS records are not always what they should be, and sometimes they misplace your payment. The IRS was less ready for Y2K than the rest of us, so heaven knows what haywire things they computers may spit out in the months to come.

Basis of property. Records relating to the cost of property and improvements to it should be retained as long as you own that property or a replacement property.

7. Toss out records no longer needed. Of course, if you want to keep all your records, forever, there’s no rule against it, as long as you have the room. Many people like to pore over old records, and seem to derive as much enjoyment from it as some of us do looking at old photographs. But when the neighbors complain that your cancelled checks and receipts are blowing around the neighborhood, it’s time for some spring cleaning.