What do I need to know about recordkeeping?

The rules for what records you need to prove taxable income and tax deductions are different.

Income

The tax rules say that all income is taxable unless you prove otherwise. Examples of deposits into your bank account that aren't taxable:

Investments

Loans

Wages from a job

Cash advances on credit cards

Transfers from one bank account to another

You must be able to prove that these are not taxable with documentation such as:

Loan agreements

Paycheck stubs

Credit card statements or bank statements

Expenses

Proving expenses is just the opposite of proving income. You must prove (1) that you spent money and (2) the expenses are related to your business. Here are a few examples of such proof:

Bank and credit card statements

Invoices

Bills

Cancelled checks

Credit and debit card receipts

Handwritten records of cash expenditures.

Organizing your expense records

You can use any bookkeeping system you choose as long as it clearly shows the transactions that make up the total amount you deduct for each expense category.

The most basic bookkeeping system is what I call the pile method. What is the pile method? It's where you put receipts into a box, for example, during the year. At tax time you dump the receipts out on a table or (the floor) and put them into piles (i.e. categories). Then you add up the amounts in each pile and enter them on your tax return or give them to your tax preparer and put the receipts back in the box. If you use the pile method, make sure you keep the receipts for each category piles together.

Important: Be sure you have proof of how you arrived at the total amount for each pile. A paper tape from an adding machine is ideal for this. A smartphone calculator is not.

Warning: Do not discard your source documents after creating reports from software or manually-prepared category summaries. Reports are not proof that you spent your money on business-related things. They only prove which transactions you put into each expense category and how you determined the total for each category. Note: Scanned copies of receipts are acceptable.