Tax Audits“You’re being audited.”  Three words that strike fear into the heart of every business owner, but the truth is, with the proper understanding, there really isn’t much to be afraid of.

First, understand the 3 main issues that lead to an audit:

  1. Underreporting of income
  2. Underpayment of taxes owed
  3. Failure to file taxes altogether

Second, understand that underreporting of income is the main issue that could cause an audit of your small business.  This can be avoided through organization and diligence, ensuring that the information from banks and past tax returns matches the information that is contained in your current return.  Areas of alert regarding underreporting tend to focus on charitable donations, depreciation deductions, dependent exemptions and business expenses.

Third, understand the audit process.  If your company is selected for an audit (the IRIS has 3 years from the date of a return to conduct an audit), you should:

  • be timely in your response to the IRS
  • have the specific information in question organized for presentation to the IRS (you don’t want them to dig any deeper into your files than necessary)
  • have all relevant supporting paperwork for your last 3 years of returns organized by category and date should the IRS request anything else during the audit (documents should include bank statements, credit card statements, loan statements, receipts, canceled checks, payroll records, W-2/1099 forms, and articles of incorporation)
  • exercise your right to representation and consult a tax professional as appropriate (the most valuable advice that these professionals will offer is that of audit protocol:  answer only the questions asked by the auditor and offer nothing further).

Fourth, understand your rights.  If you feel the auditor’s line of questioning isn’t relevant to the initial reason for the audit, you have a right to speak to their supervisor.  If your audit results in financial penalties, you can sign and pay whatever you owe and end the process immediately, or exercise your right to an appeal within 30 days (before you appeal, consider the costs involved — oftentimes it can be more expensive to go through the process than to just pay the fines that result from the audit itself).

Ultimately, if your accounting procedures and preparations break down and you are audited, keep in mind that it is most critical to convince the auditor that there was no clear intent to defraud the government.  Accidents happen, but the difference between a financial penalty and a legal consequence is often the result of the audit process itself.

When you understand the issues, the process and your rights, you will come to realize that “You’re being audited” is really nothing to fear.