Any time you make money, whether it's income from an investment or payment for doing a freelance gig, you're required to report it to the IRS and pay your share of taxes on what you earned. Generally, you'll receive a 1099 form by the end of January listing the amount you received from each company or entity that paid you.

Ideally, every 1099 form you receive will be correct. But what happens when your 1099 form is downright wrong? Whether your 1099 was issued in error or shows a number that doesn't match your records, it's important to address the problem rather than just ignore it. If you don't, you could land in serious hot water with the IRS.

Couple reviewing documents

IMAGE SOURCE: GETTY IMAGES.

The purpose of 1099s

The point of a 1099 isn't just to help you know what amount to report on your taxes; it's to make the IRS aware of what you were paid as well. Any time you receive a 1099, the IRS also gets a copy, though generally you'll receive yours first. That's why if you spot an error on your 1099, you can't just neglect it and list the amount you know is correct on your tax form. If the IRS sees that the figures don't match, there's a strong likelihood your return will get flagged for a tax audit.

Now keep in mind that if your 1099 shows an understatement of your income and you list an amount on your taxes that's higher than what your 1099 says, then the IRS probably won't say a word. And why would it? If you're listing a higher amount, it means you're asking to pay more taxes, and the IRS shouldn't have a problem with that. But if your 1099 shows an overstatement of income and you list an amount that's lower, the IRS is going to mind. That's why you'll need to get the matter cleared up, and the sooner you act, the better.

Disputing a 1099

If you receive an erroneous 1099, your first move should be to contact the issuer and ask for a corrected form. Be prepared to provide the issuer with proof of your assertion. If the issuer agrees with you, it can then file a corrected 1099 with the IRS, and you can put the matter to rest.

If the issuer of your incorrect 1099 doesn't agree with you, then things can get a bit more complicated. Your next move will involve writing a formal letter, attaching proof of your assertion, sending it to the issuer via certified mail, and retaining a copy of your correspondence for your records. If you have a specific contact at the company in question, you might get away with emailing your letter rather than getting the Postal Service involved, but if you go the digital route, make sure you're able to obtain proof of receipt.

Of course, sending an official letter won't necessarily get the issuer to see things your way, but what it will do is serve as proof that you tried to correct the issue. And that brings us to your next move. If the problem isn't resolved by the time you need to file your taxes, you'll have no choice but to explain the discrepancy on your return. Your best bet here is to list the amount of income you know to be correct, but attach a detailed explanation in support of your claim. Furthermore, you should include proof of your attempt to get the issue resolved so that the IRS sees you made an effort.

Will this bring the matter to a close? Possibly, and possibly not. The IRS might still reach out to further question the issue, or it might review your documentation, agree with your explanation, and accept your return as is. But if you don't acknowledge and explain the discrepancy on your return, you're highly likely to find yourself audited.

While disputing a 1099 can be a burdensome process, it's necessary if you want to avoid paying more taxes or running into trouble with the IRS. So if you receive an incorrect 1099, act quickly. If all goes well, you might manage to resolve the issue for a smooth, hassle-free filing.

The Motley Fool has a disclosure policy.