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Gambler's Tax Fraud
Fox News Story 2/24/2006

  Copyright© 2005 Colin M. Cody, CPA and ProfessionalGamblerStatus.com, LLC, All Rights Reserved.
Professional Gamblers need to be aware of their responsibilities under the law to maintain adequate books and records and document their activities.

"But I have a friend who says (or my accountant says) that this is "too conservative" and there's no reason for keeping all these records, it's a waste of time!"  What these people are invoking, whether they are aware of it or not, is the "Cohan rule"  [Cohan v. Comr., 39 F.2d 540 (2d Cir. 1930)] .  The Cohan rule allows a taxpayer to approximate the amount at issue despite inadequate records, if it is clear that an expenditure was incurred.

An example of this might be - you have solid documentation that 50% of your car mileage is valid business mileage, but you lost all of your gasoline purchase receipts in a fire.  The gasoline purchased can be approximated based on the documented miles, the average MPG of your vehicle and the average cost of gasoline at the pump.

As such, the Cohan rule lowers the requirements for substantiation of valid business expenses if the IRS finds the taxpayer to be credible.  If, after considering the taxpayer's other records and  everything else, the IRS does not feel comfortable with the credibility of the taxpayer - then the deductions are disallowed.  Why take the chance?  Laziness on the part of a taxpayer?  Because a tax preparer can earn twice as much by fluffing off the work of documenting substantiation, so he can bill full price for doing two client's tax returns in the time it otherwise might take for doing one?

The danger here is that when it comes to an Individual's Professional Gambler Status and Professional Gambler Status Entities, the lack of credible substantiation can lead to a revocation of Professional Gambler Status in its entirety and thus reverting the taxpayer to Casual Gambler Status [Higgins v. Comr., 312 U.S. 212 (1941)].  When doing this, the Cohan rule is not helpful.  True, without substantiation the deductions may still be allowed under the Cohan rule, but only as an Investor's expenses.

All Professional Gamblers:
  • treat your trading business professionally and apart from your personal activities.
  • avoid commingling business and non-business assets and activities.
  • save all invoices for expenses and equipment for several years.
  • also save all canceled checks, bank statements, credit card statements and loan paperwork to support payment of invoices.  (also see electronic records below)
  • save all 12 monthly brokerage statements.  If saving in electronic format, maintain multiple backup copies.
  • save all confirmations and other evidence to show the amount of time and effort spend pursuing your trading activities.
  • reconcile your casino W-2G and 5754 sales to your records.
  • reconcile your annual net gain or loss to other verifiable records.
  • verify that your downloaded trading records are correctly based on transaction date as required for IRS, and not by settlement date as per the SEC rules (usually just the activity between December 25 and January 7 needs to be reviewed).
  • keep copy of any form 2848 power of attorney and show it to IRS if the need arises.
  • never speak with the IRS about your tax return or your trading activity, refer them to your CPA.
  • avoid using any busch league "net change in broker account value" as your primary method of computing net gains or losses for the year.  we've seen as many errors with professional gamblers erroneously overpaying their taxes as illegally underpaying their taxes using this foolhardy, unprofessional approach.
  • .

Corporations and Multi Member LLCs:

  • keep copy of form SS-4 and the IRS acknowledgement of your federal identification number.
  • keep copy of form 2553 and the IRS acknowledgement of your s-corp election.
  • issue stock certificates or member certificates to shareholders/members and assure that they are "fully paid for," preferably with a separate payment made by check from the shareholder/member to the entity.
  • maintain a minute book to document what happened at annual meetings and special meetings.
  • maintain an LLC operating agreement
  • maintain an owners' buy-sell agreement funded with disability insurance or life insurance, as desired.
  • establish your retirement plan before December 31st.
  • fund your retirement plan before the initial due date of your tax return or...
  • if you will absolutely be filing timely, fund your retirement plan before the extended due date of your return.

A Recommended Chart of Accounts:

Chart of Accounts

Earned Income is required for Retirement Plans and Medical Insurance Plans:

Employee or "self-employed" Independent Contractor

Why Retain Documents and Records?

Your business records and your personal financial records must be retained for as long as they may be relevant for any tax purpose.

Generally, you will need to keep all records that support items on your tax return for at least four years, since the IRS may challenge your return for three years after its due date.  (Even longer in certain cases)

Records for long-term assets, such as real estate, business equipment, and investments, should be maintained as long as you own the assets plus several years afterwards, since you will need them in order to determine your taxable gain or loss upon sale of disposition of the asset, and you may need them to support depreciation or casualty loss deductions along the way. If you rolled over a gain in the asset, as was permitted under the old rollover replacement rule for personal residences, or because you traded some business or investment property in a tax-free exchange, you must keep records of the original asset until you dispose of the asset that took its place.

Be sure to keep copies of your income tax return itself. If you have ever made any nondeductible IRA contributions, you must retain the Forms 8606 from each year you made a contribution or received a distribution from any IRAs. But more generally, if your return is ever challenged for something serious such as fraud or not filing a tax return, the IRS can go back in time to examine your returns for as many years as it thinks necessary. The problem is that the IRS computer system might not have accessible copies of your returns from, say, 10 or 15 years ago. Therefore it is very important that you keep copies of your own tax records indefinitely, and preferably forever.

What Tax Records to Keep and For How Long:

The general rule under federal income tax regulations requires you to keep your records so long as they may be material to administration of the income tax law.

  • Income Tax Returns: Keep all federal and state income tax returns permanently along with copy of and forms W-2 and 1099-MISC for compensation earned.
  • Income Tax Return Related Items: Keep all federal and state income tax return supporting documents (i.e., those items confirming your income and/or deductions) for a minimum of three years after the return's filing date. The more prudent route is to keep these returns and documents for six years. Why? The IRS can assess additional taxes within three years of its filing date, but has up to six years in which to make a tax assessment if the IRS determines that a substantial amount of income has been omitted from the return.  In certain cases, including when fraud is suspected, the IRS can go back even further.
  • Property Taxes: The Statute Of Limitations on personal property taxes are fifteen (15) years of more after the due date of the tax.  The sale of long-ago forgotten tax liens on personal property you no longer own, or real property you still own can come back to haunt you a decade later unless you have canceled checks and stamp receipted tax bills to prove that you already paid.
  • Mailing Receipts: Keep with your file copy of each tax return the U.S. Postal Service receipt -- i.e., the registered mail receipt --showing the date the return was mailed. If your return is filed electronically, keep a copy of the electronic filing confirmation with a printed copy of the return. In the event the return is misplaced or lost, this documentation will save you from penalties.
  • Residential Property Records: Keep settlement records from all of your home purchases and sales in a safe place. This will help you determine basis for any future sale and gain determination. In addition, keep records of the amounts that you spend for home improvements with this file. These records will provide documentation of your basis in the house if and when it comes time to compute your taxable gain.
  • Stock and Bond Records: Keep records of your investment and trading purchases (e.g., stocks, options, futures, mutual funds, and bonds).  Besides providing you with a date for determining the type of gain -- long term versus short term -- these records establish your basis in the investment and help to compute the gain/loss when you sell. In addition, keep records that show a return of capital on your investments.
  • Depreciation Records: For any rental real estate or depreciable business property that you own, keep records of the property's cost, the purchase date, the method used to calculate depreciation, and a schedule of all depreciation claimed on the property in previous years. Maintain these records until you sell or dispose of the property. Once you sell the property, keep these records with the tax return on which you report the sale.
  • Personal Records: Keep a permanent file of personal records -- such as divorce agreements, copies of estate and gift tax returns under which you received property, etc. - - since they can provide a basis for determining your tax liability when you dispose of the property.
  • Other Records: There are other situations in which you will benefit from keeping records. For example, if you have made nondeductible contributions to an IRA or Roth IRA, maintaining records of these contributions will facilitate proving your tax liability when funds are withdrawn from the IRA.

Guidelines for Paper Records:

Three Years*

  • Auto mileage logs (three years or life of vehicle)
  • Bank deposit slips
  • Cancelled checks
  • Daily sales records
  • Entertainment records
  • Expense reports
  • Paid vendor invoices
  • Written acknowledgment from charity for contributions of $250 or more

*From date of filing return or due date of return, whichever is later

Six Years

  • Bank statements
  • Contracts (after expiration)


  • Annual financial statements
  • Corporate stock records
  • General ledger & journals
  • Real estate records
  • Tax returns
  • Copy C of Form W-2
  • LIFO inventory record


  • Depreciation schedules (life of asset, plus three years)
  • Meeting minutes (life of company)
  • IRA contribution and distribution records (three years after final distribution)

Here's another records retention list:

IRS typically has three years to audit tax returns.  But it is six years if it suspects that the return understates income by more than 25%.  There is no statute of limitations if tax fraud is involved or if the tax return was not filed.

Copies of tax returns including corrections and amended tax filings - Keep Forever
Tax / Legal correspondence - Keep Forever
Audit Reports - Keep Forever
Contracts and leases - Keep Forever
Real Estate Records - Keep Forever
Mortgages and Notes - Keep Forever
Corporate Minutes and Stock records - Keep Forever
General Ledger and Journals - Keep Forever

Bank Statements - Six Years
Sales Records and supporting journals - Six Years
Personal Investment Records - Six Years after final taxable sales to a 3rd party
IRA Records - Six Years after final taxable withdrawals

Canceled Checks - Three Years
Paid Vendor invoices - Three Years
Employee Payroll Records - Three Years
Employee Expense Records - Three Years
Depreciation Schedules - Life of asset plus Three Years


FAQ: Do I need to retain original business expense receipts if I scan them into my computer?

Many taxpayers maintain books and records by using an electronic storage system that either images their hardcopy books and records to an electronic stage media, such as an optical disk. Records maintained in an electronic storage system that complies with certain requirements will constitute records under Code Sec. 6001.

Code requirements
Code Sec. 6001 provides that every person liable for any tax imposed by the Code, or for the collection, must retain records. Any person subject to income tax, or a person required to file an information return, must maintain books and records, including inventories sufficient to establish the amount of gross income, deductions, credits, or other matters required to be shown.

A taxpayer’s electronic storage system that meets certain requirements will be treated as being in compliance with the recordkeeping requirements of Code Sec. 6001.

Special Rules
The definition of books and records goes beyond the typical hard copy items when you maintain all or part of your accounting records on a computer. In general, record-retention periods are the same for “machine-sensible” records as they are for their hard-copy counterparts. Machine-sensible records include magnetic tapes, punched cards and computer disks.

Where machine-sensible records are concerned, however, retrievability is important. Not only must certain records be maintained, but the IRS must have access to those records. This becomes especially burdensome when computer systems are upgraded.

If you or your business have more than $10 million in assets*, and you maintain all or a portion of your accounting records on a computer, the IRS requires that your machine-sensible records be in a retrievable format and provide the information necessary to determine the correct tax liability. This requirement applies even if your accounting system is maintained by an outside service bureau. To comply with this requirement, you must retain the following specific documentation for all data files:

  • Record formats (including the meaning of all the codes used to represent information)
  • System and program flowcharts
  • Label descriptions
  • Source program listings of programs that created the files retained
  • Detailed charts of accounts
  • Evidence that periodic tests are performed on the retained records to ensure they can produce the data stored in the records
  • Evidence that the retained records reconcile to the taxpayer’s books and the tax return

If you or your business have less than $10 million in assets, but you nevertheless maintain all or a portion of your accounting records on a computer, the IRS requires you to conform to the above standards if (1) your books and records are only available in machine-sensible format, (2) machine-sensible records were used for complex computations (such as LIFO) or (3) you are notified by the IRS that your machine-sensible records must be maintained.

* Members of a controlled group of corporations are combined for this purpose.

Taxpayers’ responsibilities
The IRS permits the destruction of the original hardcopy books and records and the deletion of the original computerized records once the taxpayer has:

  • Completed its own testing of the electronic storage systems that establishes that hardcopy or computerized books and records are being reproduced in compliance with certain requirements; and
  • Instituted procedures that ensured its continued compliance with these requirements.

Click here for more information on electronic records.

Relevant IRS Procedures and Rulings Pertaining to Records:


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Copyright© 2005
Colin M. Cody, CPA and ProfessionalGamblerStatus.com, LLC, All Rights Reserved