EITC Schedule C and record reconstruction training

Tax preparers must follow strict due diligence when clients claim the Earned Income Tax Credit (EITC) with self-employment income on Schedule C.

What you need to know

• You can't just take the client's word for it. You must ask follow-up questions and document what they say.
• The IRS expects you to verify that the client is really self-employed and reporting accurate net income.
• Clients may try to report too much or too little income to boost their EITC - it's your job to ask enough questions to ensure everything is correct.
• If a return looks wrong or incomplete, you can refuse to file it.

Key responsibilities, ethics and penalties

• Confirm the client has a real business.
• Make sure income and expenses are documented or can be reasonably reconstructed.
• Check that all income and expenses are included on Schedule C.
• You must follow IRS ethics rules (Circular 230).
• You can face penalties if you don't meet EITC due diligence requirements under IRC §6695(g).

Follow the links below to see more information about each topic:

• EITC due diligence and self-employed taxpayers
  • Vague or suspicious answers from clients.
  • No records or unrealistic numbers (e.g., exact round expenses, no expenses at all).
  • Inconsistent income (e.g., a large refund based on fabricated 1099 income).
• Recordkeeping tips
  • Taxpayers must keep books or records showing their income and expenses.
  • Ask for receipts, bank statements, mileage logs, or 1099s.
  • If the client has no records, ask detailed questions to help them reconstruct income and expenses.
  • If you're not satisfied, don't file the return.

Scenarios to know

• Scenario 1 - No business expenses claimed, investigate further
• Scenario 2 - Business income appears made up, ask for proof of activity
• Scenario 3 - Expenses seem too high, ask for documentation
• Scenario 4 - No expenses claimed, asking right questions to confirm
• Scenario 5 - Rounded expense numbers, may indicate guesses, not real data
• 1099-MISC income treatment scenarios making sure its handled properly

Remember to look for red flags and always document your questions and client responses.

Stay compliant, protect your clients, and avoid penalties by following these steps.

Related

Scenario 1 - No expenses

Scenario 2 - False business income

Scenario 3 - Overstated expenses

Scenario 4 - No expenses

Scenario 5 - Rounded expenses

1099-NEC & 1099-MISC income treatment scenarios

EITC due diligence and self-employed taxpayers

Paid preparer due diligence training