Back in 2012, the IRS began to require that credit card companies, banks and other third-party organizations that settle credit card and debit card transactions file informational returns with the IRS using Form 1099-K. The information reported on Form 1099-K is the amount of income your business received via credit and debit card transactions as well as any other types reportable income received via electronic payment methods. If your company receives income via any of these electronic methods, both you and the IRS should be receiving a copy of the 1099-K.
By viewing the information reported on Form 1099-K, the IRS can determine your business’s gross income from credit and debit card/electronic payment sales. The information reported on Form 1099-K also makes it easier for the IRS to segregate credit and debit card/electronic payment method sales from cash sales. That gives the IRS the ability to see if your business’s income from electronic payments reported on your tax return matches the settlement company’s information return. Form 1099-K also helps the IRS see if the percentage of your business’s other sales (i.e. cash and check) make sense when looking at the business’s total income and the percentage coming from electronic payment methods.
Now the IRS has a way to scrutinize your business income from credit more carefully and debit cards/electronic payment methods. They have recently developed a program that allows them to easily compare the income received via credit/debit cards/electronic payments reported on Form 1099-K to that reported on your business tax return. The IRS is looking for red flags, for example where your business’s percentages fall outside the norm. With this new program, the IRS can easily compare the percentage of income your business reports as coming from credit/debit cards/electronic payments versus cash sales to what the typical rate is for other businesses in your industry. If your percentages fall outside what is considered ideal, it could raise a red flag, and you might receive a letter from the IRS asking for an explanation.
If you receive one of these letters, it is best to address the issue immediately. Putting it off can only make matters worse. You may also want to seek professional assistance with preparing a response. Please give me a call if you have any questions or would like assistance in responding to the IRS.