The IRS… divorce… These two boogeymen show up on most people’s fear lists. But why are they so scary? Financial ruin, of course! Let us break them down into bite-sized pieces and see what we can do to protect ourselves.
Internal revenue service
I think it is a healthy response to fear the IRS to some extent; a bit of fear keeps us, taxpayers, in line! However, there are a few circumstances that can trigger scary events. Let us look at those more closely.
A windfall year
Having a windfall year and not paying taxes on the windfall when it happens. The next year, the taxpayer discovers that they owe money. However, they do not have the money to pay because that income was just a windfall, and now it is gone. Why does this happen? It is the way people think about taxes.
Most people think of taxes as something you must calculate at the end of the year, by April 15th and March 15th for some businesses. You would do better to think about taxes as “a portion of your income” that goes to support local and federal structures. That is right… a portion of your income. It is easy to be employed as a W2 worker, and your employer is handling your tax withholding. You do not even have to think about it because the taxes are going to the IRS like clockwork.
Well, the same rules apply for the income you receive outside of your usual paycheck. Every time you receive earned income, you trigger a taxable event. If you do not send the money to the IRS, who will? And, if you do not, that money will still be due when you arrive at year-end to pay your taxes. The problem with waiting is that the penalties for late payments are very stiff. You are usually better off just sending the payment in and getting a refund at the end of the year, rather than taking the chance to owe more than you can pay and having those penalties added to your balance. Sure, you could impound the money into a savings account that is set aside for taxes, but only does this if you have the self-control not to touch it!
Facing an audit
Audits are not fun, but they are especially taxing (pun intended) if you do not have your bookkeeping and records together. Think about it. Do you know where your medical bills from 2012 are right now? Maybe you always take the standard deduction, so you do not care…right? Do you have copies of the paperwork from that IRA that you rolled over when you got the new job 6 years ago? Did your employer reimburse you for cell phone expenses that you incurred on their behalf? Where do you have the cell phone bills for those periods… you know, the ones from that phone company you do not use anymore? I think I have made my point.
It is time to enter the 21st century. It is advisable to have all your tax records scanned and saved electronically for ease of access and IRS submission. You can use a bookkeeping service, like Complete Controller, to keep the books, scan, name, and store your source documents securely. You can also create your filing system and do your books. Stay aware of security issues around solutions like Dropbox or solutions that disappear if you do not maintain your software subscription, like QuickBooks. Choose carefully and name your documents in a searchable manner—for example, YYMMDD Name of Document $XXX.XX.pdf matches a transaction on the books. Your audit will go faster and smoother. And, if you have not broken any rules, you have little to fear.
Divorce is awful. It is the end of a chapter and the last resort for two people who were truly, madly, deeply in love at one point in time. And it usually comes after you both have made mistakes you cannot repair, leading to irreconcilable differences. What are some of the most damaging financial impacts of divorce, and what can you do to prevent them?
Single-income families now have twice the expenses and half the wealth. When you are young and falling in love, you might find it awkward to have conversations around earnings, savings, credit, and financial planning. You might know every intimate secret and physicality about someone and know nothing about their bank account, spending habits, saving goals, and plans on how to get to happily ever after.
I strongly advise you not to enter a marriage (which is effectively a business partnership with benefits) until you have a strong grasp of your partner’s strengths and weaknesses in finance. Frank and open conversations about finances will help you groove healthy habits like budgeting and financial planning, preventing divorce. While you are planning your finances, it is necessary to work a contingency into your plan that solves the problems of death, disease, or divorce (the 3-Ds). Insurance is a great way to cover these risks. Individual retirement accounts are also great tools. If you plan for one family member to earn more, while the other provides support that is not financial, such as schooling or child-rearing, it is important to talk about how that person will be covered in case one of the 3-Ds happens to the family. Equal attention should be given to each person’s financial stability and, whenever possible, the family should try to limit living expenses to one-half of their after-tax income. This is not only a good habit but will also allow both parties to know that they will be fine if the family income gets sliced in two.
There is nothing more devastating than discovering that the person you let into your inner circle of trust, the one who vowed to have your back under all circumstances, is hiding financial irresponsibility. This can show up in many ways: spending the kid’s college funds, applying for credit or entering a financial contract without spousal consent, failure to pay taxes, exposure to current or future financial risk by not paying insurance bills, or failing to fund the 401(k). Do not let your partnership suffer this violation; insist upon transparency now.
Household and business finances are everyone’s business unless you have a prenuptial agreement that states otherwise and absolves you from responsibility. Ignorance is not bliss; it is dangerous. No matter what the news, it is better to both know it and work to solve it rather than having the burden and shame fall on one person’s shoulders while the other enjoys what turns out to be only a facade. The worst thing you can steal from someone is the truth.
By practicing transparency, each member is equally responsible for the financial outcome and knowledgeable about the risk. Plans can be made, and desperation might breed ingenuity. Use a service like Complete Controller to manage your household books and records on a secure platform where the information is available for you and your partner to view or manage your budget and bookkeeping in a shared document or app and make sure the bank accesses are available to anyone with skin in the game. Use Credit Karma and share those credentials too. Divorce is bad enough without having debt and dishonesty rear up months or even years later. Make it your responsibility to know.
I think we can all agree that the IRS and divorce are equally scary. Hopefully, with a little advice from your friends at Complete Controller, you are a step ahead if you must face them!About Complete Controller® – America’s Bookkeeping Experts Complete Controller is the Nation’s Leader in virtual bookkeeping, providing service to businesses and households alike. Utilizing Complete Controller’s technology, clients gain access to a cloud-hosted desktop where their entire team and tax accountant may access the QuickBooks™️ file, critical financial documents, and back-office tools in an efficient and secure environment. Complete Controller’s team of certified US-based accounting professionals provide bookkeeping, record storage, performance reporting, and controller services including training, cash-flow management, budgeting and forecasting, process and controls advisement, and bill-pay. With flat-rate service plans, Complete Controller is the most cost-effective expert accounting solution for business, family-office, trusts, and households of any size or complexity.