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Thriving Stylist Podcast
#366 - IRS tax announcement and how it could impact stylists and salon owners
00:24:42
The IRS is now using AI to search tax records and open audits, but what exactly does this mean for stylists and salon owners? Today, I want to talk about how this latest news from the IRS could significantly impact your business, and I break down the...
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Brit Siva
Do you feel like you were meant to have a kick ass career as a hairstylist? Like you got into this industry to make big things happen? Maybe you're struggling to build a solid base and want some stability. Maybe, you know social media is important, but it feels like a waste of time because you aren't seeing any results. Maybe you've already had some amazing success but are craving more. Maybe you're ready to truly enjoy the freedom and flexibility this industry has to offer. Cutting and coloring skills will only get you so far, but to build a lifelong career as a wealthy stylist, it takes business skills and a serious marketing strategy. When you're ready to quit just working in your business and start working on it, join us here where we share real success stories from real stylists. I'm Brit Seva, social media and marketing strategist just for hairstylists and this is the Thriving Stylist Podcast. What is up? And welcome back to the Thriving Stylist Podcast. I'm your host Brit Siva and today we're talking about the IRS and taxes and audits and just all kind of fun stuff. I actually, actually I know that this stuff can be a little bit hard to talk about sometimes hard to even listen to because it's so technical and it's not really fun to talk about taxes in the irs. But I think these things are important because the other things that's not fun is an audit or paying back taxes or worse. And so I think it's really important that we have these conversations from time to time. Especially we just recently talked about financial changes that we could see coming through with the new administration. And so I think this announcement that recently came from the IRS is very worthy of us talking about podcast episode. I also want to talk about ERC credits and a few other tax related things as we close out 2024 and look to 2025. So let me explain where the inspiration from this podcast came from. So I got a little message from Thriver Society Certified Coach Carly and she said, hey, somebody that I really respect posted about some changes coming out of the IRS and I think it's important that we have this conversation. So first of all, shout out to Coach Carly. Thank you for bringing this to our att. Second, I want to give a shout out to Modern Chick or Chic Accounting. So it's M O D E R N C H I C Accounting on Instagram and this post was made on November 24, 2024 and the graphic if you want to go back and look at it says the IRS is now using AI to search tax records and open audits. And then I'm going to read you the caption that was shared as well because I think it's important. It says. It was announced last month that after early successes of using AI to identify tax evaders, the IRS plans to increase audits to levels not seen in decades by using sophisticated tools to identify patterns of potential tax fraud under reporting and non compliance. Here are just five key patterns that AI will help the IRS to identify. Number one, income under reporting and mismatch income under reporting. So if they believe that somebody is under reporting what they made, there is a potential for audit, which is, you know, a lot of small businesses and companies that's very broad. And so I think that kind of opens it up to almost everybody. Unusual deductions are credits. So some of the very common deductions, if you're on TikTok, you've seen a lot of actually, if you're on the side of TikTok that I'm on, there's a lot of people who are promoting like tax hacks. And one of the big ones is if you have a card that you use for business over a certain weight, there are some pretty significant tax deductions you can take on that. And so there's a lot of people saying so like buy a big luxury car and you can take advantage of these big write offs. Well, imagine if you did that, bought like $150,000 car, thinking that you were going to have these big huge write offs, only to find out that the IRS is going to come audit you and find that that car was not primarily used for business. You could be in a heap of trouble with something like that. So unusual deductions or credits, abnormal cash flow patterns, patterns of non filing or late filing. Eek. I know from the DMs I receive that there are a lot of stylists or salon owners in the industry who don't file quarterly taxes and should. If you are an employee of your salon, you do not need to file quarterly taxes, you need to file annual taxes. Your salon should be filing the quarterly tax reports. If you are an independent stylist, meaning you are in a studio suite or a booth renter or you're a salon owner, you do need to be filing quarterly taxes. And with this patterns of non filing or late filing put you at high risk of this AI audit. Unusual behavior or risk indicators. She goes on to say in the caption, in this new area of AI driven tax enforcement, the Risk of being caught for underreporting income or committing tax fraud has seen significantly increased, making it more important than ever for taxpayers to fully comply with tax laws. Best steps to avoid a tax audit get your books organized and up to date uploaded and correctly code your transactions and reconcile your accounts. How many of you still self do your taxes or don't have a professional bookkeeper? You can get professional bookkeeping for such an affordable rate. And what I have found is when I started paying for a bookkeeper, I saved so much money. When I coach Dallas and salon owners I'm like, just pay for the bookkeeper. They end up saving money. It's funny, it's like one of those things that pays for itself because they're able to do things in a way that is proper and it ends up being like one of the better investments that you make. Report all of your income. Reconcile your sales per your sales report. Understand what qualifies as a legitimate business expense. Ask your bookkeeper or CPA if you're unsure if you have one of those CPAs who's like actually you can go shopping and we can write off the clothes you pay as part of your tax write offs. Be really careful for that. I remember I bought some nicer outfits for a live speaking engagement that I was going to and I asked my CPA was like, listen, I made this big investment. I think it was on a jacket or something. Is there any way I could write this off? And his response was literally only if you want to get audited. And so I understand that there's like people get so excited when they have creative CPAs and they're like, oh, we find a way to write off everything that may catch up with you. So just be really mindful of that. Keep documentation, receipts and record of payments, invoices, et cetera. Again, if you use QuickBooks or a great digital bookkeeping system, please, please, please tell me that you have a separate business bank account. That alone makes these things so much easier. Please, please, please tell me that you're buying salon supplies on a business only credit card like this is a call out to get your business expenses and finances in order. Last part. Don't deduct uncommon or excessive expenses. Understand beauty specific guidelines. Don't try to claim deductions that would seem out of place. Like you go on vacation with your family and try to write the trip off like things like that you will get in trouble for with this new system potentially. I am so thankful for modern chic accounting for bringing this to the forefront. It Hits very close to home for me because I will openly share that. We, as a company underwent an audit in 2024, and it's the first business audit I've ever had. And I was completely shocked because I was like, I have. Well, first of all, I was never scared because I was like, I have always had very clean bookkeeping. I have never had anything I wrote off that was like, extensive. I run my business super straight up. I don't have any funny stuff. And mostly I was like, I don't want to go through this process. The process was actually not that bad, probably because I do have very clean books. So when it came up, even my CPA was like, I am shocked that you're the person being audited. I was like, me too. Couldn't believe it. So went through the process. What ended up being found out? I did have a back tax payment I owed, and it shocked me. I've always paid quarterlies. I have paid on time. I've never missed a payment. Like, my accounting is super clean, like I keep saying. And that's why she was like, you of all people. This just seems weird. And what happened was they uncovered that an old CPA, not my current CPA at all, an old CPA years ago, filed. It was a quarterly estimate for Q4, and they filed it as if it was a prepayment for the upcoming year. So because they had filed it not as a Q4 payment, but a prepayment for the upcoming year, and it wasn't done fraudulently. It was just done by mistake. It made us believe that we had paid more for that upcoming year than we had. It was like that Q4 payment we could see. And that's why it was confusing for us. I was like, I made the payment. I can see it on the books. I did make the payment, and I always made my payments on time. The problem was the way it was noted was incorrect. So it was like a little snag and snafu. So the money went out, but the allocation was incorrect. So she came back and she's like, okay, they see what happened. I see what happened. You owe one additional quarterly payment. Because the way that it shook out, the way that the accounting was done, was not correct. And I was like, wow, I just can't believe years later this came back. And she's like, I can't either. She's like, we filed for you. It was something like there had been 22 filings since. I mean, this was really some time ago. And she's like, it's Just so crazy that it had never come up until this point. Now a couple months later, I'm hearing about this AI audit thing. I would bet money that that's how they caught. My issue is that somebody manually checking it would have been really difficult to catch this because when you looked at the accounting, there was nothing missed. What was missed was the allocation of the payment. And because it was so specific, it's flown under the radar for years and we were able to settle it. It was super easy, not a huge deal. But now after hearing this, I was like, oh, this is going to be huge. And because I was fortunate that I do have clean accounting and there was no fraud and it was really simple to take care of, I got lucky. I think anybody who does, I'm going to say, subscribe to creative accounting or does things that are not legal could be in trouble with this one. As somebody who just went through it, I can see the impact that this would have. So let me talk about who I'm concerned for, because I'm not concerned for everybody. There are some people I am concerned for. This is a quote. In 2023, AI helped the IRS out. This is from the Internal Revenue Service website. In 2023, AI helped the IRS recover $1.3 billion in overdue taxes from recent taxpayers. By 2026, the agency expects its use of AI to more than double the number of individuals and corporate taxpayers it selects to audit. More than double. Taxpayers can prepare for this increased scrutiny by recognizing some of the common abnormalities AI identifies that can trigger an audit and take steps to remedy them before filing filing their annual returns. These include the following. And then it goes on to say a lot of the things that I just already mentioned when we're looking at the Instagram post from Modern Chic Accounting. A lot of those things are detailed. But I like the way that she did it because she did it in like industry speak, which was wonderful. But some of the things that were mentioned in this article were claiming significantly higher than average income loss or deductible expenses in a particular tax year. So again, creative accounting claiming incorrect or unsupported business expenses. Again, creative accounting, including business meals, entertainment, business use of an automobile, and a Section 179 deduction for depreciated business equipment. Depreciated business equipment is something that is commonly used in the beauty industry. Sometimes legally, sometimes not legally. This is one of the things that's specifically mentioned, goes on to say hundreds of billions of dollars are potentially missing from what should be collected in taxes each Year known as the tax gap. This money is the difference between what is owed and what is paid. The tax gap has been a problem for decades, and it's growing larger. The tax gap is an average of $500 billion a year in unpaid taxes. Some years it's more like 700 billion. So it's big. And the IRS is saying, we want ours back, please. So when we look at the areas that this AI can detect. Again, I don't know that my audit was the result of AI software, but after researching, I think there's a really good chance that it was. So for me, like technical and form filing issues. So if you're somebody who's still. And by the way, I have a very professional CPA and bookkeeping team and financial advisor and myself, I'm very involved in my finances. We all have heavy hands in my bookkeeping. Every single month we missed it. So just know that if you're doing this all yourself and you don't have a professional team, the likelihood of some kind of error somewhere is fairly high. And it's just worth being aware of. Couple of the things that came up when looking into this that make me very concerned is something called the 1099 matching program. I didn't realize this existed until I did this research, and I think it's something we really need to talk about. The IRS created this program to target individuals. Listen to this. Who only file one form, 1099 miscellaneous as a personal tax return. That is the majority of booth renters, typically true independent contractors, will require more. Another component of the 1099 matching program is monitoring who submits multiple types of tax returns. Listen up. This one is a problem too. When a worker files a form W2 and a form 1099 misc from the same employer in the same year, suspicions are raised. How many of you are booth rental salons, and you pay your stylist commissions on retail that's sold. So there's a W2 component, and then it's a booth rental situation. So there's a 1099 component. Red flag. And they're saying that's one of the things that could very much come up in this new audit situation. It's always been a part of this 1099 matching program. The IRS conducts 6,000 random employment audits in this specific program. And based on what the IRS is saying in their new AI program, that would double. So that is concerning. If there's 1099 fraud issues or a 1099 and W2 being issued out of a salon, you are Putting yourself in a tricky position. So let's talk about what that means. Like the 11099 thing. So for example, I have a few. I consider them to be team members, but they're not employees. They're true 1099. A couple of our coaches are 1099. They are contractors, they come in to support us, but they're working as stylist or they're working working as salon owners. They have multiple businesses. It's a true 1099 relationship. My podcast editor is a 1099 team member. He has, I don't know, 15 different accounts. So he's lots of 1099s are happening. My videographer, 1099, he probably works with, I don't know again, 20 different businesses, multiple 1099. It's a true contractor. If there is a 1099 at play and it's just between a singular stylist and their salon owner, that is what this program is looking for. It is concerning. So all that being said, that could potentially impact the booth rental side of the industry in a fairly significant way. Now, did the IRS openly say, you know, this 1099 matching program, I should say is what the AI is going to be used for? No, they didn't. And what they actually said is in the pilot program and to start they are looking at higher income businesses and individuals, which I think most of us are like, heck yeah. So when you look at at higher net worth individuals, they do know all the tax loopholes and all of the ways to kind of manipulate the system. And what they said is they are looking at higher income individuals. The other thing they're looking at is pass through businesses. So how many of you are an LLC that files as an S corp? And we know there's lots of different benefits of doing that. They did say that LLC spelling as an S corp are a part of kind of the primary group of individuals they're looking at. Now, I would guess I don't work for the IRS and I'm making this as an assumption, I have no idea. But I would guess that more worth their effort to go for higher income earner than a lower income earner. So I'm going to guess that's where this is going to start. Also, a lot of their quotes look like that's what they're saying. But that being said, if this is only the beginning, this is kind of like the last chance to get things legal and above board and make sure that you're doing things in a way that makes sense. And I do think this is Like a cry to. If you are not working with a professional CPA who does things legally, now is a great time to do it. Because if you're anything like me, like, I found out you can be audited for something that happened years ago and it can sneak back up on you. And then you got to find all those records from the years past. Like people talk about. I just went through it and I really tend to believe it's because of software that, like this, that now exists and you can think that you were doing things properly. You can have a CPA who's super professional who also thought they were doing things properly, and something could still go wrong. I want to talk about taxes on tips because one of the things I know that we always talk about is like, we're supposed to claim our tips for tax purposes. And it's something that I coach too, because I believe that having the highest taxable income possible, it's basically like what you make on paper. When people say, what do you make on paper? It's your taxable income. And what you make on paper is what allows you to buy a home, get a car loan, apply for credit, like, do all of the adulting things we do. I know cash under the table is like great when you have like a high school job, when you become an adult, like, what you make on paper really matters. It matters when it comes to Social Security and Medicare and retirement and all those kind of things too. I understand this is a cash based industry and not everything gets claimed. And it's fun to stick a $10 bill in your wallet and spend it on Starbucks the next day. I totally get it. I've done all that kind of stuff too, in my younger years. But I've always coached to claiming your tips as taxable income because I think that the benefits outweigh, I guess, the downfall. So I was like, oh my gosh, could this come down on those who don't claim tips on their taxes? Like, is that a part of what this AI audit is looking for? From what I found, it actually looks like no. So what I found that I didn't realize is that part of the tax code is that as an employee who operates a large food or beverage establishment must file form 8027, which is the employer's annual informational return of tip income and allocated tips to make an annual report to the IRS for their receipts from food and beverage and tips employees reported to the employer. So what it sounds like is really the IRS is concerned about tips coming through for quote unquote large food or beverage establishments. So they know that a restaurant or a bar is going to run a pretty good amount of, I mean, probably hundreds of thousands of dollars in gratuities coming in, depending on how big the establishment is. They're looking for that. They're not looking for the solo stylist who's making even $10,000 a year in tips. Like when they're saying we're looking at large food and beverage establishments. Like, they want to go for the 500,000, not the 5,000. So I can't promise you anything. Like, could they come for you because you're not claiming tips? Totally. Does the IRS know that beauty professionals earn tips? I'm going to say yes, that they're humans and they know that. But does it look like this audit is going to be coming for that? No, it really doesn't. So let's talk about ERC for a second. And I asked about this on my Instagram story the other day too, because I was like, well, is it worth me talking about this on the podcast episode or not? And it turns out it is worth me talking about. So the employee retention credit or the employee retention tax credit, it depends. It's been called a few different things, but it does the same deal. It's a refundable tax credit for certain eligible businesses and tact exempt organizations that had employees and were affected during the COVID 19 pandemic. The requirements are dependent on the time period of which you claim the credit. The ERC is not available to individuals, so you have to be a company and you have to have employees for this to have been a credit available to you. So the way it was set up is the credit was available to employers that paid qualified wages to some or all employees after March 12th of 2020 and before January 1st of 2022. So it was a very specific window of time, almost 24 months. Eligibility and credit amounts were varied depending on when the business impacts occurred. So generally, the business and tax exempt organizations that qualify were those that were suspended by a government order due to COVID 19, which was a huge part of our industry, or experienced the required decline of gross receipts during 2020 or the first three quarters of 2021. Again, a lot of our industry or qualified as a recovery startup business for the third or fourth quarter of 2021. That part, I don't think affects us quite as much. So I asked, I said, how many salon owners did this? A lot. A lot. It was about half of salon owners that took the poll had applied for this Credit and half hadn't. And a lot of people DM'd me and they said, I applied, I never got my payment. A lot said, I applied and I got two of my three payments. Do you think my third payment's coming? And then a few people said, I applied, I got my funding, and it really helped me to do X, Y or Z. So that's what was interesting is of the people who applied, the outcomes were super varied on it. One salon owner said she was expected to get $100,000 thousand dollars in credits and has not seen a dime of it. So imagine anticipating a hundred thousand dollars and years later you don't have it. Would it change the way you operate and run your business? That's tricky. So why am I bringing this up right now? Well, the program in many ways failed. It didn't go well. So another thing that salon owners were saying is, I'm feeling frustrated because I feel like a lot of people applied for the credit who didn't really deserve it. They got their money and I didn't get mine. That is true. There was quite a bit of fraud within the program. Again, creative accounting and the IRS picked up on it. And when they realized that things maybe weren't going as planned, the program has stalled and payouts have stalled. And what I noticed when doing this research was there are now firms who are like, do you need to protect yourself from the ERC audit? So there are efforts being made to look at, if you did receive an ERC payout, was that really done properly? Was your application done correctly? If you received monies that you really shouldn't have received, they will be asking for those back. And there is some concern for that because without a shadow of a doubt, some companies got money that they really shouldn't have, and some companies that probably should have gotten money didn't get theirs. And so recently there has been concern for how are we going to make that right? I don't know that it will ever be made whole. But it is something that in doing this research, I did see some conversation about, again, is this AI audit thing targeting erc? Doesn't look like it is at this time, but it is a topic of conversation. And it does look like some. I think. I think it's legal representation. I look into it at scale, but I think it's worth looking into. If you received erc. There are companies specifically who are like, we can help you protect yourself from the ERC you redeemed or something like that. There is concern. And so the reason I want to Share this episode is I think it's important to understand as an industry that did for many many decades run a little bit creatively, was a very cash heavy industry and does do things a little bit differently quite often. Now is a really great time to get your financial house in order. There are so many incredible resources is available to you now if you search Thriving Stylist Podcast Retirement thriving stylist podcast 1099 thriving stylist podcast Taxes. You will see previous episodes that we've shared where we talk about these kind of things. Like I said, we do have a financial advisor who comes in and Michelle Cook, CPA as well. Come in to support our thrivers community totally free of cost throughout the program. Just take this time to improve your financial literacy. Make sure that you are paying things legally, doing things above board. We are living in a time where things might start catching up to us and so I just think it's important to be aware. Do your research. I hope this has been beneficial and helpful. If you have any additional questions or want to keep conversation going, you can leave me a rating or review on itunes or hit me up in the DMs on Instagram. So much love. Happy business building and I'll see you on the next one. SA.