IRS Audit Tips

Tip For When You Receive an Audit Letter

Decide if you will be doing the audit yourself or hiring a CPA. One mistake people make is to assume that because you have all your receipts, read a tax guide, and used tax software, such as Turbo Tax or Tax Act, that the audit will go smoothly. Sorry, but the IRS is trained to intimidate people out of deductions. Another mistake is to assume that the person who prepared your returns is the correct person to represent you. Yes, they are familiar with you and your return. However, that is not a prerequisite for being good at audit representation. Consider hiring a reputable CPA firm with a lot of audit experience

If You Will Handle Your Own Audit…

You should attempt to schedule an appointment at the IRS office. Do not set up the appointment at your home or office. You do not want the auditor snooping around. Who knows what they will make out of what they see! You should attempt to schedule a date that allows you enough time to adequately prepare for the audit. This includes contacting third parties for invoices, receipts, schedules, notarized statements, etc.
Understand your rights beyond the Taxpayer Bill of Right. Research our website and others’ to understand the reasonableness of positions you want to take regarding you income and expenses.

Using the IRS Departments Available to You

Understand the audit report, how much time you have to respond, etc. Know about the audit manager and appeals. Understand the notice of delinquency and filing a tax court petition. Know when to file an appeal. A lot of this information is available on our website. You may want to sign up for our one hour consultations. We explain in a lot of detail, giving you confidence to handle your own audit. Of course we never recommend that you represent yourself in an audit unless you absolutely do not have the money to hire a CPA firm.

Never Go To an Audit Unprepared

There are guides you can buy that will help you prepare. I cant stress this enough. Auditors are trained to sway you to believe in their interpretations of the tax rules. Being prepared means you understand why you are entitled to your treatment of a tax issue, income, or expense item.

Expect to Owe Something

The IRS assumes that most people can’t support their tax return in the manner that the IRS requires. Sometimes we get “no change” audit results. Auditors usually like to look good to their manager. Managers require that audit work papers contain copies of support documents. When the auditor doesn’t have documentation to support their work papers, they will deny a deduction. You can beg all you want, but if they don’t think their manager will be happy, they will deny your deduction. Be prepared to give them some adjustments in their favor, or you are setting yourself up for disappointment.

Don’t Volunteer Information

Answer all questions with short, to the point answers. Long-winded explanations open the door for further questions. They also show your emotions. IRS employees are trained to use your emotions against you.

Don’t Bring Copies of Other Tax Years

The auditor is only supposed to audit what is in the audit letter. If they want to audit other years then they need to issue letters stating these years are under examination.

Best Audit Tip of All

Hire the most experienced, best qualified CPA firm you can find. Why? Because CPA’s are held to the highest professional standards. It’s extremely rare to find out that a state’s Attorney General’s office is going after a CPA firm. The State Board of Accountants will resolve fraud matters way beforehand! As for the T.V. hucksters and their many complains and Attorney General fines…Well, just do some diligent research and you’ll see.

IRS Tax Audit Red Flags

The IRS selects audits based mostly on compliance and the Discriminant Income Function (DIF) score. Returns that have the highest potential for errors and additional tax assessments may be selected for audit.

Some cases are…

Home Office Deduction

We’ve found that many times the tax savings isn’t worth the risk. Especially the depreciation. Once you commit part of your house to business use, you have to pick up any gain on sale from that portion as ordinary income. This in effect reverses the benefit of the deduction. This deduction gets abused by taxpayers who tend to write off a larger portion than what was used, especially if they already sold the house. Also, personal expenses tend to get apportioned incorrectly to the business portion of the house. This is a major red flag

Rental Property

People often make incorrect assumptions regarding the rules associated with rental property. There are dealers, investors, and often classifications, such as active and passive. Passive losses may only be limited to $25,000 and phased out for high income taxpayers. Material participants can deduct their bases in full. Incorrect classifications cause taxpayers to deduct more than they should. Non deductible expenses are found on tax returns, too. The IRS red flags the returns with rental property as returns with potential audit adjustments.

Charity

People often do the following incorrect things on their returns pertaining to charity; they…

1. …Deduct too high of a value for donated items to charities
2. …Deduct amounts greater than actually paid for religious donations
3. …Overstate the fair market value of property they donate
4. …Deduct amounts that are extremely large in relation to their earnings
All items on returns should be explained when they exceed what the IRS would generally expect. Don’t know what they expect on returns? We do! Please consult us if you are being audited or have unusual tax return circumstances. CPA firms are the professionals best suited for these matters.

Sales Properties – Schedule C

Sometimes employers who are paid on a W2 form will put their business expenses on the form. This is incorrect. Schedule C is to be used by self employed individuals. These people invoice their customers and are paid directly. They may be paid indirectly and issued a 1099. This is the tip of the iceberg. The biggest reason most business audits by far are Schedule C’s is because people deduct everything in the world except “the kitchen sink.” Correction, they deduct that, too. Every expense must meet the IRS guidelines for deductability before you deduct it. You can’t just say that it’s some how related to business so therefore it must be deductible. Self employed people have been hiding income at such a high rate that auditors will make all your bank deposits’ income unless you can prove which deposits are not.

Employee Business Expenses

This form is often prepared incorrectly. You must be a salaried employee. The expenses incurred have to be a condition of employment and for the convenience of the employer. Other rules concerning reimbursement, ordinary and necessary, and deduction limitations exist. The amounts from this form carry to Schedule A. There is room for error and abuse on this form. The IRS will send the case to Criminal Investigation if they think you are fraudulent claiming job expenses. Please consider having us represent you.

Audit of Payroll Taxes

Payroll Tax Audits

Knowing how to handle a payroll tax audit is a bit different than regular 1040 income tax audits. These audits involve federal withholding, social security, and medicare tax all withheld from employees’ paychecks. This is reported on IRS form 941. It involves the federal unemployment tax reported on federal IRS form 940. There are various types of penalties, and there there is interest associated with an untimely filing of reports & payment of taxes as they become due. There is also the issue of assessing trust fun taxes, which is the remaining FICA, medicare and withholding tax after the application of any payments. Knowing the potential adjustment and the rules to avoid personal liability has helped us save hundreds of thousands of dollars for our clients where others have failed. This is one of our firm’s most successful services. It’s one of our “unique solutions” offered from Joe’s 30+ years of experience.

Employment Tax Audits Can Lead to Other Return Items

As always, when returns are audited, we recommend discussing the scope with the auditor and discussing the necessity to prepare to defend other items. This is what we do as part of our employment audit representation.

State Unemployment Insurance (UI) Audit

The IRS has entered into agreements with state agencies administering unemployment insurance to actively exchange information. In addition to a potential state audit, the state may share their information with the IRS. The IRS uses that information to prepare unfiled 941 payroll reports. They are under code section 6020b. The IRS, upon seeing that the info from the state is a large dollar amount or that it doesn’t match the 941 filed, may elect to audit the return. More often than not, they send an adjustment letter requesting that you reconcile the difference.


We have assisted taxpayers in successfully reconciling the report for many years. Continuously, we have cases where an accurate reconciliation will produce a high tax increase. Taxpayers often decide if they want to provide false information. We can help you successfully if you provide accurate information. The knowledge we have that helps taxpayers avoid overpaying stems from years of professional practice. I invite you to bring us your payroll issues.

SS-8 Independent Contractor Employee Status Determination

Many companies are the subject of investigations by the IRS from sub contractors claiming that their employer should have taken out taxes from their paycheck. The IRS may require you to fill out an SS-8 form and related documents to determine worker status. This is not a form to just blindly fill out. It should support the classification you think it should be. Was the worker self employed or an employee? We would like to add you to our list of successful cases.

Sources of Information Leading to Payroll Examinations

The IRS gets leads from competitors and people who desire to get the company in trouble, such as customers and ex-employees. Filing past the deadline and paying late is an audit trigger. Information from the state and other government agencies help, too. Using a lot of independent contractors, as they do in construction and various service industries, can cause an audit.

Reasons the IRS Conducts Payroll Tax Audits

1. To make sure workers are classified correctly as employees on contract labor
2. To make sure all money paid to employees is reported
3. To make sure employers and employees file all required returns. And, of course, pay all taxes due.
We urge you to contact us regarding payroll issues and other audit issues you may have.

IRS Audit Reconsideration

An audit reconsideration is a procedure that you follow to request that the IRS examine your return again. You may want to do this if an assessment is made that you disagree with. The assessment can be made from a return you filed, a return the IRS filed for you as an Substitute For Return (SFR), or under a 6020b for payroll. Any money you want back that was overpaid should be done as an amended 1040X or a claim for refund.

Acceptable Reasons The IRS Will Open Up The Audit

• You are now in the possession of information that was not personally submitted to the auditor. This information will be a reasonable adjustment in your favor.
• You are trying to replace an SFR that the IRS filed for you and they didn’t, or wouldn’t, process the return you sent in.
• You still have unresolved errors in the processing, or computations, from an audit assessment.

Don’t file for audit reconsideration if you are doing it for the following reasons, or under the following circumstances:

• You signed the audit report. The closing agreement Form 906 is considered final by the IRS.
• You signed an offer in compromise agreement pertaining to the years in question.
• You signed an agreement with appeals form 870-AD.
• You already had a determination from tax court concerning the liability.

How To Apply For Audit Reconsideration

Even if the IRS audits you when you haven’t filed, the instructions say that…

1. …you must file a return.
2. …you should submit a written request of changes with any documentation that was not previously considered
3. …you should submit contact information.

Other Important Facts Related to Audit Reconsideration

1. You can get a partial reduction of the liability.
2. If you are in a payment plan for the years in question, you must continue to make your payments. This is true for all outstanding liabilities. If you file an offer in compromise, appeal, etc. then the collection division must be in agreement concerning the stopping of collections.
3. If you disagree with the decision concerning the audit reconsideration, you can file an appeal. In practice, we usually try to get the audit division to open the audit up again. Otherwise, we go directly to appeals.
4. Whether or not you file an audit reconsideration you can always pay the amount in full and file a formal claim for refund Form 1040X. Remember that claims must be filed within 3 years from the date the return was filed or 2 years from the date the taxes were paid; whichever is later. If the claim is denied, you can appeal the denial or file a tax court claim for refund.

Most taxpayers don’t understand the various options they have to resolve issues with the IRS. After 30 years, we have experienced the benefits of using the various departments within the IRS, and the benefits of using the tax laws applicable to our clients’ situations. We want the opportunity to show you these benefits.

How Long Do IRS Audits Take? Other Timing Involving Audits?

Do You Want To Know The Various Audit Time Frames?

How long after I file will the IRS take to send an audit letter?

Usually, it takes 4-6 weeks for the IRS to process your income tax return. Longer if filed during March and April. The IRS has 3 years from the due date to audit you. Usually, after about 2 years after filing, you may get an audit letter.
How long does the examination division give a taxpayer to set an audit appointment?

The audit letter will request that you call them as soon as possible to set up an appointment. They will give you an exact date and time that you must call by. We suggest that you don’t miss that deadline. If you do, the auditor may draft an adjustment report. They will leave out most of your deductions causing you to have a tax liability greater than you think is reasonable.
How far in the future can I schedule my audit appointment?

Normally, auditors want it scheduled within 30 days. Sometimes, if they have a large caseload, they will schedule it for two or three months later. You can always reschedule if you have problems gathering up your information. Sometimes rescheduling is a problem. People usually hire us when this occurs.

How long does the audit take?

Once the audit begins, expect it to last for several hours. Audits of more complicated returns can last for days or weeks. Some last for months, especially audits of businesses. Often, the audit will be left open until the taxpayer files any delinquent returns. This give the IRS a chance to audit those other years. The examiner may request other years to audit as well as additional information from third parties. They will hold the audit open until they receive and review the additional information. If you file an appeal, the audit will be held open until the auditor updates their workpapers. They will then be sent to appeals to assist in resolving the audit issue you appealed. Since this process often results in holding the audit open for several months, the taxpayer is often asked to sign an extension. This is an extension of time to complete the audit based on the statute of limitations of 3 years.
We are very experienced in all phases of audit scheduling and timing. We urge you to consider hiring a professional CPA firm, such as ours, for audit representation.

Expatriate Tax Return Audits

Audit of Form 2555 – Foreign Earned Income Exclusion

Most people call an audit of your form 2555, the Foreign Earned Income Exclusion form, an expatriate audit. We feel that an audit of the above form can, and may, lead to auditing other areas of your return. It can lead to auditing other tax years as well.

Form 9209 – Bona fide Residence/Physical Presence Questionnaire

In this form, the IRS gathers information to help determine if you meet their tests. Meeting these tests were essential in determining if you qualified for the Foreign Earned Income Exclusion ($91,400 maximum for 2009) when you filed form 2555. The IRS may also send you other questions concerning residency, payment of foreign taxes, etc. In this way, they gather information to assist in probing areas to help them disallow the exclusion. They will also have written statements, which can be used as evidence against you.
We can represent you by first gathering the evidence in your favor that supports the Foreign Earned Income Exclusion. Then, we can fill out any questionnaire in a manner that supports your ability to keep the exclusion. As you representatives, we can attempt to narrow the scope of the audit. We can assist you in getting the proper documents to support any expenses you claim or other items on your return. We can slow down their process of auditing every year and item they can find. We can assist you in reducing the liabilities, the penalties, etc., by negotiating a settlement more in your favor. Please consider our audit knowledge and experience. As always, contact us before you contact the IRS.

IRS Examination Report – Form 4549

Adjustment to Income

The IRS form 4549 is the “Income Tax Examination Changes” report. This report is filled out by auditors to show the adjustments to income made in order to arrive at the total adjustments. The adjustments to income can come from an increase or decrease to your taxable gross income. They are also adjustments for expenses disallowed on additional expenses that are allowed.

Corrected Taxable Income & Tax

Here is where the adjustments are compared to the income previously shown on the tax return to arrive at the corrected taxable income. Then, the additional taxes, if any, are computed. Usually, this is a much larger number than taxpayers expect. If you are not happy with the additional taxes on your examination report, please consult us concerning your options.

Less Credits

Based on the changes to income and the tax liability, credits may be affected. Any changes will be made to arrive at the net balance of taxes owed.

Penalties, Interest, Deficiency Increase

Here is where you are charged estimated tax penalties, late-payment penalties & interest, late-filing penalties, substantial understatement of tax penalties, etc. Some of these may be removed. By knowing how to apply the rules in the IRS Penalty Handbook, and knowing what the IRS is willing to accept, you may avoid paying certain penalties. Please contact us for more details.
Most people tend to focus on the amount of taxes being charged on the examination report. They forget that other issues are being considered. A good audit representative will consider the following issues in addition to just lowering the overall taxes on the report:

1. Is the IRS tax examiner sending the case file to Criminal Investigation because they think there was fraudulent activity?
2. Is the auditor planning on waiting until you file your next tax return before closing the audit in order to allow the IRS to examine that as well?
3. Is the auditor trying to convince you to give them your returns or bank statements for other years?

Please, do NOT contact the IRS before calling us first.