Bookkeeping Cleanup Checklist Before Your Tax Return

What should my books show before I give them to my tax preparer?

The books must show gross income, deductions and credits, and every entry must trace to a record (Publication 583). Any system works if it clearly shows income and expenses. For a partnership or corporation, the balance sheet on the return (Schedule L), where one is required, should also agree with the books (Form 1065, Form 1120-S and Form 1120 instructions).

Work the checklist in this order. Each step makes the next one possible.

A case is not simple when:

• A year already filed does not tie. Find the cause before changing anything; the filed return may be affected.
• A partnership or S corporation has capital or loan accounts nobody tracked. The return's balance sheet should agree with the books; a partnership attaches a statement for any difference, and S corporation shareholder loans should reconcile to the K-1s.
• Owner money is mixed into months of business transactions. Each transaction has to be sorted before the books can be used.
• Months have nothing entered, or years are behind. The missing months have to be entered before this checklist applies; see catching up on overdue books.
• A return is due soon. Little time remains to find and fix differences.
• The owner or a parent company is outside the US. A foreign-owned US company may have to report transactions with its foreign owner (Form 5472), so the owner-transfer list must be complete.

Gather first: the statement for every bank, card and loan account, last year's filed return, every Form 1099 received, and a list of money moved between the business and its owners.

Does every bank and card account tie to its statement at year end?

Reconcile every bank and card account to its statement as of the last day of the period. The books and the statement should agree once you list what has not cleared. Publication 583 says to keep the business account separate from the personal one and to reconcile it each month. A reconciliation works like this:

1. Compare each deposit and payment on the statement with the books, and note every difference.
2. List what is in the books but not yet on the statement, such as outstanding checks and deposits in transit.
3. Enter what is on the statement but not in the books, such as bank charges.
4. Check that the adjusted statement balance equals the adjusted books balance. If not, an error remains.

Run the same test on every account and card, including rarely used and closed ones. Credit card and loan balances take the same test against their statements. A connected bank is not a reconciliation: see why bank feeds are not reconciliation.

A tied account shows the cash balance is right. It does not show the categories are.

Bank feed items: should I exclude or delete unmatched and duplicate transactions?

Exclude a copy or an item that does not belong in these books, rather than deleting it. This is for items still waiting in the feed; one already added to the books is corrected in the books. In QuickBooks Online, an excluded feed item is not brought in again, while a deleted one is downloaded again from the bank (Intuit documentation). No official source covers how feeds behave and other software may differ, so check its help before relying on this.

Sort each unmatched feed item into one of three groups:

• Real and not yet in the books: record it with a category.
• Already in the books by hand entry, invoice payment or a transfer in another account: match it to that entry.
• Not for these books, or a copy of another item: exclude it.

Exclude only items that truly do not belong. Excluding a real deposit leaves the books lower than the statement, and the gap appears at the next reconciliation.

How do I find and remove duplicate income and expenses?

Find the second copy by amount and date, then remove the one that does not tie to a bank record or document. A duplicate shows up as a book balance that is higher or lower than the statement, or as income larger than the deposits.

Common sources:

• An invoice marked paid, plus the same deposit entered again as income.
• The same bank file brought in by the feed and again by upload.
• The same card connected twice.
• A card payment booked as an expense, plus the card's own charges.
• A transfer between your own accounts booked as income in one and as an expense in the other. Neither is income or an expense.

To find them, total the deposits on the statements and compare them with the income recorded plus the deposits that are not income. Then sort by amount and look for the same figure on nearby dates. A reconciliation gap can equal one duplicate. Publication 583 says records should identify the source of receipts so business and nonbusiness money, and taxable and nontaxable money, can be separated. If the copy is dated in a year already filed, tell the preparer before you remove it.

For doubled sales see duplicate income in your books. For deposits that do not match a sales report, see reconciling sales and payouts. For card payments counted twice, see credit card payments in the books.

Do my opening balances match last year's filed return?

They should. This year's opening balances are last year's closing balances, and a partnership or corporation can check them line by line against the balance sheet on the filed return.

A small entity may skip Schedule L if it answers Yes to the size question on its return (on Schedule B for Forms 1065 and 1120-S, on Schedule K for Form 1120), and a small partnership may also skip Schedule M-2 and item L on each Schedule K-1 (Form 1065). If so, compare with last year's final books and year-end statements instead. The books still need to tie to last year's close.

To compare, put last year's year-end balance sheet beside this year's opening balance sheet and list every line that differs. A common cause is an entry dated in the closed year and changed after the return was prepared. A partnership's filed balance sheet may be on a tax basis, and item L reports tax-basis capital, so ask for the statement that explains an intended difference before assuming the books are wrong.

Do not close a gap with a this-year entry before you know why it exists. See a beginning balance that changed in a closed period, retained earnings that do not match the return and locking a filed year.

How do I handle personal spending and owner transfers in the business account?

Draws, contributions and owner loans go in owner accounts, never in income or expenses. Wages and guaranteed payments are separate, and the preparer classifies them. Publication 334 lists personal, living and family expenses as expenses you cannot deduct, and says to separate the personal part of a mixed expense. It also describes a separate drawing account for business income withdrawn for personal use.

Publication 583 suggests marking each deposit as business income, personal funds or a loan, and writing checks to yourself only for personal withdrawals. Money borrowed through a bona fide loan is not income.

Make one list of every transfer between the business and its owners for the year: date, amount, account and purpose. Take personal spending out of expenses and put it in an owner account. The account name does not decide the tax label; the preparer sorts transfers with the full year in view.

Months of mixed money are in fixing commingled funds. Partner pay is in guaranteed payments and partner draws. S corporation owner transfers are in S corporation catch-up books and personal expenses paid by an S corporation. For a C corporation, see owner expenses paid by a C corporation.

How do I clear uncategorized items and suspense accounts before I send anything?

Give every transaction a category that reaches a return line, or a written note that says what is unknown. Leave nothing in uncategorized income, uncategorized expense or a catch-all holding account.

1. List every transaction in those accounts.
2. Sort each one: income, business expense, owner money, transfer between your own accounts, loan or card payment, or equipment purchase.
3. For an item with no record, check the bank or card statement. A statement can prove the payment, but proof of payment alone does not establish a deduction; keep the invoice or receipt too.
4. For an item you cannot identify, record the date, amount and payee in a note for the preparer. Do not guess a category.

The full method is in uncategorized expenses before tax time. For missing receipts, see lost receipts for business expenses.

Does my income tie to Forms 1099-K and 1099-NEC?

Total each form by payer or platform, compare it with the income booked from that source, and explain every difference in a note. The IRS says to use Form 1099-K with other records, and to report all income whether or not a form arrives. Books can show more than the forms; books that show less need a reason you can document.

A payment card processor sends Form 1099-K for card payments whatever the amount. A payment app or online marketplace must send one when payments for goods or services exceed $20,000 across more than 200 transactions, and may send one for less. Money from family and friends as a gift or repayment of a personal expense should not be on a Form 1099-K (IRS). Publication 583 lists Forms 1099-MISC and 1099-NEC among the documents that support gross receipts.

Differences usually come from fees, refunds, sales tax collected, timing, personal payments, duplicates or errors on the form. Sales tax collected for the state is not income when the tax is imposed on the buyer, but it is gross receipts when the tax is imposed on you as the seller (Publication 334). Timing includes invoices unpaid at year end when the books are on the accrual method and the return is on the cash method (Publication 583; see accrual books and a cash-basis return). If a Form 1099-NEC and a Form 1099-K may report the same payment, count it once: see the same income on two tax forms.

Income that does not match a sales report is in reconciling sales and payouts. Matching income to the forms for overdue books is in catching up on overdue books.

Which loans, credit cards and equipment belong on the balance sheet?

Money owed and things the business owns belong on the balance sheet, not in the profit and loss. A balance sheet shows assets, liabilities and the owner's equity on a date (Publication 583).

• Loans: the balance matches the lender's year-end statement. Money borrowed is not income, and the interest on business debt is the cost that reaches expenses (Publication 334). See recording a business loan.
• Credit cards: the balance matches the card statement. Paying the card bill moves money from the bank to the card; it is not a second expense. See credit card payments in the books.
• Equipment: property you use in the business that is expected to last more than a year generally cannot be deducted in full in the year bought; the cost is spread over more than one tax year as depreciation (Publication 334). The section 179 deduction (Publication 583), bonus depreciation and the de minimis safe harbor election for small items can allow a larger first-year deduction; the safe harbor applies only to amounts deducted in the books (Publication 334). Keep the date acquired, price, improvements, any section 179 deduction and depreciation taken (Publication 583).

Flag for the preparer any equipment booked as a repair or supply expense and any purchase missing from the asset list. Before moving a small purchase to the balance sheet, ask whether the safe harbor election is used: see expensing or capitalizing small purchases. A missing asset schedule is in rebuilding a depreciation schedule.

What do I send the preparer once the books are clean?

Send the clean books and the records behind them, with a note of anything unresolved.

The reports a preparer pulls are in books to the business tax return. What closes after December 31 is in the year-end close checklist.

Example

These examples are illustrative; all amounts are in US dollars.

A freelance designer whose checking does not tie

The books show US$18,400 in checking, and the December 31 statement shows US$17,950. No checks are outstanding and no deposits are in transit. The US$450 gap is one payment processor deposit entered twice by the feed. Removing the extra entry leaves one deposit and the books at US$17,950. Exclude any copy still waiting in the feed, so it does not come back.

A two-member LLC whose opening cash is off

A two-member LLC taxed as a partnership opens the year with US$31,000 of cash in its books. Last year's filed Schedule L showed US$26,500 of cash at year end. The US$4,500 difference may come from an entry dated in the closed year and changed after the return was prepared. The fix starts by finding the cause, not by adjusting this year's cash. If the cause is a change the preparer never saw, the filed return may need a second look; that is the preparer's call.

An S corporation that paid the owner's rent

An S corporation paid US$6,000 of the owner's personal rent from the business card and booked it as rent expense. The US$6,000 goes to an owner account until the preparer decides, with the full year in view, whether it is pay, a distribution or a shareholder loan. If it is a distribution or loan, taking it out of rent expense lowers expenses by US$6,000 and raises book profit by the same amount. If it is reasonable pay for services, it stays an expense as wages, with payroll reporting, and profit does not change.

Different for you?

• A balance will not tie to a year already filed, or you are unsure whether to clean up, rebuild or start a new file: see a beginning balance that changed in a closed period, retained earnings that do not match the return, cleanup or start fresh and what catch-up bookkeeping costs, and get bookkeeping help.
• Months have nothing entered, or a return is due soon: see catching up on overdue books and get bookkeeping help.
• Owner money is mixed into months of transactions: see fixing commingled funds and get bookkeeping help.
• A partnership or S corporation has capital or shareholder-loan accounts nobody tracked: see S corporation catch-up books and guaranteed payments and partner draws, and get bookkeeping help.
• The owner lives abroad, a foreign company owns the business, or an account is held abroad: see bookkeeping for a foreign-owned US company, records for a foreign-owned LLC and FBAR for company accounts abroad, and get cross-border tax help.
• Deposits do not match your sales reports: see reconciling sales and payouts.