Substantiation refers to the documentation required to support claims for deductions and/or credits on your tax returns – and it’s a critical aspect of tax compliance that can lead to major disputes between the taxpayer and tax authorities.
The IRS (and other tax authorities, including cities and states) have some pretty stiff rules regarding what constitutes sufficient proof of the deductions you claim.
What sort of evidence is required to substantiate a tax deduction?
The exact requirements vary depending on the type of deduction you are claiming, but documentation will generally include things like:
- Receipts and invoices, which provide proof of purchases for tax-deductible business items, home repair materials, office supplies and medical bills
- Bank statements, which can be used to verify that payments are made (and sometimes stand in for receipts that may have gone missing)
- Canceled checks, which can be used similarly to the way that receipts are used
- Detailed records, which can include logs of use for home offices, travel records, vehicle use, entertainment costs and business-related meals
The issues tend to come in when taxpayers fail to keep thorough records. Simply having a receipt, for example, may not be enough to show the nature of the expense. Similarly, a credit card statement that shows a charge to a restaurant would be insufficient to show that the meal had a business purpose without corroborating evidence from your day planner or calendar.
Tax laws are complicated and frequently changing, and disallowed deductions related to a lack of substantiation can leave a small business owner in the lurch – and on the hook for significant tax arrears. If you find yourself on the wrong end of a tax audit and you’re concerned about the outcome, it may be time to seek legal assistance.