This tax season, lots of people are getting audited in our industry. This month in particular causes my inbox to be flooded with a variety of tax-season revelations. The two most popular revelations this year are: “I’m not really an independent contractor?!” and “The IRS is auditing my business because I misclassified staff on accident!”

A third contender is rising up the list this week and that is, “My salon was chosen for random auditing!”

Cash based businesses, like salons, are often targeted for random audits. Sometimes it is through absolutely no fault of your own, but sometimes your return flags your business. The audit rate is roughly 1 in 100, but we’re in a unique position that puts us at special risk. Salon owners and independent professionals that make $200,000 or higher have an audit rate of 3.26% (1/30). If you make more than $1 million, in addition to being the luckiest bastard alive, you have a 1 in 9 chance of being audited.

Here are some tips for avoiding an audit:
1.) Watch your deductions.
Your deductions should be realistic and typical. A typical deduction is a recurring business expense, like your online booking service or your salon’s rent. Daily commuting to and from your work is not a legitimate deduction. The general rule is that anything you have to spend money on to make money on is deductible. Don’t claim things that are questionable. For our industry, a trip to a trade show is understandable. An extravagant European cruise is not. Big deductions for meals, travel, and entertainment are inviting audit. To qualify for meal or entertainment deductions, you must keep detailed records that document for each expense the amount, the place, the people attending, the business purpose and the nature of the meeting. Without that documentation, you get no deduction.
2.) Be able to verify your deductions.
If you can’t verify your deduction, don’t claim it. Get yourself a receipt scanner and an expandable file. Scan your receipts and save them on Dropbox. Back them up on a portable harddrive or thumbdrive. Keep the originals in the expandable file. Both the harddrive and the expandable file should be kept in a fire-safe box. (I’m a big fan of fire-safe boxes, if you couldn’t tell.) This way, if you’re ever audited, you can correspond your deduction with the original receipt. Some places give really crappy receipts, so if you need to notate what the expenses were, do so on the back of the slip. Simple actually makes this really easy by allowing you to attach photos and notes to your transactions, as well as hashtags, categories, and GPS tagging. In an audit, that type of documentation is your best friend.
3.) File online.
Sometimes, mistakes happen when IRS representatives manually enter your handwritten return information into the system. Numbers get omitted or added. This mistake that is entirely out of your control can cause you to be audited. Eliminate the middle man entirely and e-file. According to the IRS, the error rate for a paper return is 21%. The error rate for electronically filed returns is 0.5%.
4.) Eliminate the “cash” from “cash business.”
The IRS knows that those who receive primarily cash are less likely to accurately report all of their taxable income. So, eliminate cash from your business. This is a personal decision I made when I ran my business. I don’t like cash. I don’t like that it’s impossible to track, I hated counting it every night, I hated filling out deposit slips every night, and I hated depositing it every evening. (When I’m done working and cleaning up, I just want to walk out of the building.) In addition, I often worked alone in the building and both my husband and the doctor I worked with worried about me getting robbed. I made the decision to quit accepting cash payment and cash gratuity entirely. I implemented a new policy and only took traceable forms of payment. This included checks, gift certificates through SpaWeek, credit cards, and instant transfers from Paypal. Not only did this policy make me less likely to be audited (and robbed), it simplified my accounting, saved me daily trips to the bank, and gave me peace of mind. I got an account with Simple (an entirely online bank without branches that doesn’t take cash deposits unless they’re turned into money orders and submitted as checks) and never exchanged physical currency again. Checks were instantly photo deposited and destroyed once they cleared. None of my clients paid with cash anyways and this policy didn’t generate any complaints at all. I think as a modern society, we’re all moving towards digital currency. For me, this was one of the best decisions I could have made for myself and my business, but it does have a downside. Payment settlement entities have been required since 2012 to report all credit card transactions to the IRS on Form 1099-K. This includes Visa, MasterCard, and American Express, as well as online merchant processors. The IRS compares your credit card and cash receipts with your industry average. The IRS may send you a letter asking you to re-examine your books to make sure you didn’t omit any cash transactions if they feel your non-cash transactions make up too large a percentage of your annual revenue. To protect yourself from this, make sure your refusal to accept cash is clearly stated on your website, your brochures, and posted in your business. Keep your appointment records and your daily sales records. It shouldn’t be difficult at all to compare each appointment from the book with the corresponding payment record, especially now that many merchant service companies provide and store digital signatures and digital receipts.
5.) Hire a bookkeeper and accountant.
Managing your own business finances puts you at risk. Turn that responsibility over to a professional. It’s a small annual investment that can pay off big. If you’re going to be itemizing (which you most likely will be), do yourself a big favor and hire a professional to keep you organized. Focus on making the money. Let someone else handle the paperwork.
6.) Cross your T’s and dot your I’s.
Make sure your social security number is correct. Don’t round your numbers. Make sure your math is perfect. Triple-check every figure. Leave nothing blank. For the love of God, this is 2014. If you aren’t using software to file, get out of the stone age and start doing so now.
7.) Incorporate if you’re self-employed.
Small businesses are a favorite target of the IRS…and for good reason. Self-employed people are most likely to underreport income and overstate deductions. They make no distinction between whether you’re high-grossing or not. If you are self-employed (booth renters, I’m looking at you), consider incorporating or forming a limited liability company (LLC). Corporations and LLCs are audited less frequently than other small businesses. Incorporating or forming an LLC also allows for more deductions.
8.) Watch your charitable deductions.
The IRS knows what the average charitable donation is at every income level. If your salon holds a charity event where services are rendered in exchange for donations to a particular charity, be sure to document everything. When I worked in management, we held cut-a-thons for charity twice a year. Each client filled out a form with their contact information, the services rendered, and the donation made. They received a receipt from us so they could also claim that charitable donation themselves. Always consult with a tax professional when claiming those charitable deductions to ensure that you have all the documentation necessary to justify that deduction.
9.) Have your staff accurately classified.
This is so important, I should have made it number one. By now, anyone who has read this blog should understand that the Independent Contractor classification absolutely DOES NOT apply to our business except in very specific, limited instances. The best way to put yourself at risk for an audit is to have employees classified as Independent Contractors. All it takes is for one of them to get informed and file an SS-8 against you. It’s that easy. Not only will your business be audited, but you’ll be put smack in the middle of a labor dispute with your Attorney General’s office (or the Department of Labor, depending on your state). If you’re using more Independent Contractors than employees, the IRS sees that as a huge red flag since many owners do this to avoid paying employment taxes on their staff. When it comes to payroll tax debt, the IRS has unyielding power and authority to collect. (They can lock your doors and shut you down without a court order.) It’s common. It’s fugly. And you don’t want any part of that.
10.) Expect it.
That’s right. Expect to be audited and be prepared for it before it happens. That way, if/when it does happen, you’ll be ready for it. Keep yourself organized. Keep yourself honest. Remember that even the most minor illegal, fraudulent activities are indefensible in the eyes of the IRS. Run everything by your accountant/bookkeeper. If what you’re doing seems wrong, don’t do it because it probably is wrong. In this situation, your best defense is excessive preparation and organization.


  1. As an owner who is also a stylist, am
    I able to claim myself as a booth renter or do I have to claim myself as a commission paid employee?

    • I’m not sure what you mean by “claim” yourself. Where the IRS is concerned, you’re either employed or self-employed. In your case, regardless of whether you’re operating as a booth renter or an owner, you’re considered self-employed and responsible for the entirety of your self-employment tax.

  2. I have a booth rental salon. Occasionally I will take on a new stylist and let them pay 30% of their income to me(tips& their retail sales not included) for rent. They must go full rent within 6 months. The clients pay them, they sell their own retail and they provide all of their own products. I do not set their schedule but if they are not building, showing ambition etc. I will let them go. Am I legal? I’m just trying to help them build. In the town we live in almost all of the salons are booth rental.

    • Your arrangement is legal, but puts you in a questionable position. Five of six IRS revenue rulings show that salon landlords who collect a percentage of gross sales in lieu of rent are determined to be employers. However, you’re very clearly the one who operates at a financial disadvantage in this arrangement, and you’re honoring all of the freedoms due to a self-employed person, so I think you’re in a better position to defend it if you had to. A good friend of mine (also named Sharon, coincidentally) offers the same deal to new professionals with no clientele as a courtesy to them. It’s a generous thing to do for a new stylist, and I’d be willing to make that argument to any IRS or DOL investigator if necessary.

  3. Is sales tax usually included in the price of the service being provided. i.e. $10.00 hair cut, or is the taxes need to be added after the hair cut price?

    • If your state has sales tax on services, you would add that to the cost of the hair cut (the same way taxes are added to retail items). However, you can adjust the service price to be inclusive of sales tax so clients aren’t surprised at the register. (I prefer to do it this way. We don’t have service taxes here in Florida, but we have sales tax on products. My sticker prices are the actual price, taxes and all.)

  4. Hi Tina
    So as a salon/barbershop owner/operator, I do pay booth rent into my business account every week just as the other independent operators do every week. I deposit this money every Monday into my business account. The reason I do this is because, the business pays all of its own bills and operates solely on it’s own income from booth rent received. l deposit these monies into an account separate from my personal account (my household account). Should I do a 1099 for myself for the money I receive for the services I provide to my customers and a separate 1099 for the booth rent paid to the business. I have my business listed as an LLC. Thank you so much.

    • If your business is an LLC, all of your business income should “pass through,” meaning that it gets reported on your personal income tax return. You shouldn’t have to issue yourself a 1099, but I’m not a tax professional, so I recommend talking to someone qualified to advise you, someone who knows every detail of your specific situation. (I’d be happy to help, but I’m certainly not qualified, lol.)

    • Yes, the IRS will have the right to look at all business-related documentation and records to assist in the auditing process. (Here’s more information about what they will request and why. Since appointment books help to verify income, it falls within the range of documentation they’d be interested in looking at.) I’m actually in the process of becoming an Enrolled Agent, which will allow me to represent salon owners in proceeding with the IRS (like a tax attorney).


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