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IRS takes aim at businesses: What to do if you are audited

With an ever-growing Federal budget deficit, the Internal Revenue Service (IRS) is working harder to find new orAudit Checklist missing revenue and has hired more agents in the last five years to conduct business audits.

Alan Weinberg, leader of the IRS Tax Practice and Procedure Group with Dixon Hughes, PLLC, (www.dixon-hughes.com),certified public accountants and advisors, says the IRS is moving audits away from the largest corporations. “With our clients, we’re seeing a significant increase in audits of mid- to large-sized companies,” he says.

Pass through entities— corporations that pass income, losses, and deductions to shareholders for federal tax purposes, such as partnerships and S Corporations—are also seeing increased audit activity. But Weinberg indicates that audits are never random. The IRS has senior agents who classify returns for audit potential after selection by computer profile.

Jamie Smith, managing member of Dixon Hughes’ Jacksonville office, indicates that the IRS views small and mid-sized businesses as the biggest offenders in noncompliance with tax laws.

“In most cases, the business isn’t purposely attempting to defraud the government,” he says. Errors in bookkeeping, record keeping and misreporting information on tax returns are typically reasons why an audit occurs.

“Sometimes the classification of certain assets as depreciable or available for immediate expensing may be interpreted differently by the IRS then what was reported,” Smith says. “That will trigger an investigation.”

Weinberg adds that the IRS wants to expedite the audit process because more audits should mean more revenue for the treasury and better compliance in the future.

“It is best to be prepared for the day you get that telephone call from the revenue agent that your return has been selected for examination,” he says.

How to prepare

Weinberg says that many businesses immediately panic when contacted by the IRS. “Often taxpayers believe that they did nothing wrong and their initial reaction is to give the IRS more information than needed to prove what they did was correct,” he says. According to Weinberg, the best course of action is to seek the assistance of a professional. However, if you elect to go it alone, you need to make a plan.

Weinberg indicates that a few steps should be done to prepare for the audit, like assigning a person in your company to coordinate the audit and determine what company resources are needed.

Ask yourself what you may have done. Was there an unusual transaction that year? Have you pushed the envelope on deductions or maintained other practices that would make your return standout? A taxpayer should ask the agent for a risk analysis at the initial meeting to determine what issues will be examined.

Some mid-sized companies have invested in hiring in-house tax specialists, but many may not have adequate staff to handle the IRS requests.

“Audits can be very expensive due to the time and effort it takes to gather data and meet IRS demands in a timely manner,” Weinberg says. “The cost of time commitment, staff availability, and internal tax knowledge should be weighed against the cost of hiring an outside professional to help.”

The IRS confirms in writing that a company is under examination and issues an Individual Document Request (IDR), “which asks for a significant amount of information,” he says.

What the IDR does not tell you is that the agent will want to interview your highest-ranking official at the first meeting.

“The agent wants to know about the company, what it does, and how it does it,” he says.

The IRS Web site (irs.gov) has information on a number of issues, risks, and potential penalties that may provide insight about the reasons for the audit.

“Taxpayers need to know what the issues are and what needs to be provided to prove their position,” Weinberg says.

What the IRS knows

The IRS probably knows more about your company than they will lead you to believe. The agents will look up your Web page; the agents will Google your company and your corporate officers.

Different tactics may be used to get information such as asking for all records or for other information that may not seem relevant.

“Uninformed tax departments or individuals may be pushed pretty hard,” Weinberg says. “You need to have some knowledge of the regulations and the audit process to navigate an IRS examination smoothly.”

In an attempt to help auditors, the IRS developed a Market Segment Specialization Program (MSSP) to provide a better understanding of different industry issues. These MSSP guides are available to all business owners as well. Weinberg suggests that business owners become familiar with the guidelines for their types of business.

“The IRS is educating its agents and providing them with more information about issues they will encounter during a field examination,” he says. “There’s no doubt that the agent who walks into your office will have done his or her homework on your company,” he says.

The agent’s length of visit

The size of the company, how well books and records are kept, or other issues that arise determine the length of an audit, which can take from six to twelve months.

The IRS expects taxpayers to respond to IDRs within two weeks from issuance. How quickly requested information can be turned around will have an impact on how long the audit will take. If books and records are not well organized, an examination could take longer. The person representing the company wants to be available to respond to questions.

Weinberg adds, “The more time an agent is in your office, there is more room to find errors in your tax return. The agent becomes part of your office environment— tying up an office, desk, phone line and generally becoming part of the atmosphere— where break room discussions are overheard and access to even more information is gained. This intrusion can potentially put a business in jeopardy for penalties or worse.”

Afterwards

When the audit is finally finished, the IRS will issue a proposed adjustment, if one is required, and will request a response within two weeks. But be prepared. If there are adjustments made to the return, it is possible that a penalty will be assessed.

“The IRS is asserting more and more penalties against taxpayers,” he says. “It is getting harder to reach an agreement to drop the penalty.”

Many times, taxpayers must decide if the time and cost to fight the penalty exceeds the amount levied. According to Weinberg, a good agent is usually willing to work with a business to resolve many adjustments. If not, the taxpayer has the right to apply for review by the IRS Appeals Office. Any increased tax liability is not payable during the appeals process.

If an agreement still cannot be reached, the IRS issues a Statutory Notice of Deficiency to the company.

While a taxpayer can then petition the United States Tax Court “pro se” (without counsel), Weinberg says, “at that point, legal assistance may be a good idea.”

But be aware that all legal representation is at the taxpayer’s expense.

“Complex tax audits are best done with the assistance of an experienced specialist from the start,” says Smith. “That can be a small investment compared with a business’ lost time, productivity, and potential penalties.”


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