prepare for an audit

Episode 44:  In this episode, Timalyn discusses issues related to tax audits.  The fear people have about being audited is often paralyzing.  It’s a serious issue and you need to be prepared to both avoid it and to know what you need to do if it happens.  There are steps you can take to ensure your business is audit-ready.

There’s No Such Thing as an Audit-Proof Return

Regardless of what some tax professionals might claim, there’s no way to guarantee you won’t be audited.  There are different types of audits and the selection “triggers” vary.  The IRS has the Discrimination Function System that produces a DIF score.  This system rates the potential for change based on past IRS’ experiences with similar returns.

The IRS can track returns for similar businesses, using categories such as NAICS codes.  This code describes your type of industry.  When they look at a collection of similar returns from the same industry, they can determine averages for specific data points, such as expenses, credits, etc. for your reported income level.  If your DIF score is out of that range, it could trigger an audit. 

Irregularities can also raise flags.  For instance, if all of your figures on your tax return are round numbers, that would seem odd and could result in an audit. 

The IRS has a whistleblower program.  They pay snitches who were correct about something they alerted the IRS to regarding someone else’s tax filings. 

It Doesn’t Mean You Did Anything Wrong

Timalyn emphasizes that just because you’re being audited, it doesn’t mean you did anything wrong.  She explains that for 2023, there was a 0.4% chance that taxpayers would face an audit.  Lower income individuals actually had a slightly higher chance. 

Don’t Fear the Boogey Man

An audit isn’t as scary as it sounds.  It’s a review or exam of your tax account and your financial information to ensure proper reporting.  If you keep good records and don’t inflate/deflate your income or expenses, is there really anything to fear?  You have the information and it’s accurate.  As long as you can prove that information was reported correctly to the IRS, you should be fine. 

If your records are extremely unorganized, you had to guess at certain dollar amounts or someone else guessed for you, the audit may become a problem for you. 

Correspondence Audits

This is where the IRS will contact a taxpayer to request specific information.  If you’ve received an audit notice, or a field audit where the IRS agent comes to you, Timalyn recommends you don’t handle this on your own.  It doesn’t matter how good your records are. 

Yes, you may be able figure out how to handle the process, but you’re going to be at a disadvantage and the opportunity to make a mistake is significant.  This is not something you should simply search for on YouTube.  You need an experienced tax professional who knows how to deal with the IRS and the rights you have, during the audit process. 

If you’ve received an audit notice, you can book a tax relief consultation with Timalyn.  She also has an episode on what you need to look for when hiring a tax professional.  Episode 23 is titled, “Which Type of Tax Professional Do I Need?”  In the show notes for that episode, there’s a link to Episode 16, “How to Choose a Tax Professional.”  Both are full of valuable information for your consideration. 

When you receive a Correspondence Audit, the IRS may not explain specifically why they are requesting the information.  It can be a significant source of anxiety.  Make sure you respond to the IRS in a timely manner.  Timalyn suggests responding before the deadline, in case something else needs to be addressed.  If you have good records, this will be much easier.

Do You Already Have a Tax Power of Attorney?

If you already have a tax power of attorney, you’ve already authorized this person to speak to the IRS on your behalf.  They’ve filed submitted IRS Form 2848, so they will also receive the correspondence from the IRS. 

Don’t assume the person who prepared your tax return is receiving the same correspondence you have received from the IRS.  Unless they’ve submitted Form 2848, the IRS does not have the authorization to speak with that tax preparer and vice versa.

Prepare Your Business for an Audit

This is the best thing you can do, especially because of the random nature of IRS audits.  Timalyn re-emphasizes the importance of good record keeping.  You have to be able to substantiate everything you entered on your tax return.  This applies to both income, expenses and credits. 

There are many ways people have committed fraud by overstating their income when applying for the PPP loans, SBA loans, or a mortgage.  These are reasons the IRS may require you to substantiate your income.  Good financial statements, based on accurate bookkeeping can help you to prove you received the income you claim, even if you don’t have a 1099 to back it up.  Your bookkeeper or accountant will reconcile your bank account.  The financial reports should reflect your income.  Make sure the person who prepares your financial statements has access to your bank statements.  If they are doing it without access, you may be setting yourself up for a significant issue or issues.

The same record keeping applies for your expenses.  It’s why business owners should not co-mingle their business and personal funds.  During an audit, explaining the different purchases will be more complicated if you can’t determine whether they were for business or personal reasons.  

You Need a Bookkeeper

This person is a valuable resource.  It’s something Timalyn often recommends you outsource.  A business owner can waste a lot of time trying to do their own bookkeeping.  You should definitely understand your financial records, but the time spent doing all of the record keeping and reporting could be better spent generating more revenue.

The 3-H’s of Record Keeping

Timalyn suggests there are questions to consider related to record keeping. 

●      How long should you keep your records? 

●      How should your store your records?

●      How do you deliver your records?

Episode 20 specifically deals with how long you need to retain your tax records. 

Don’t Create More Problems for Yourself

If you’re being audited, remember to only provide the IRS what they are asking for.  Make sure the support for those records is readily available.  Timalyn uses the example of someone who was asked to show income for a number of years.  However, because they didn’t have good records, they instead decided to turn over all bank statements to the auditor.  This resulted in the auditor finding even more questionable transactions that were flagged. 

If you’re going through an audit, you typically wouldn’t know how to handle the IRS.  Even good intentions can lead to many more problems.  That’s why you should work with a tax representation professional who is familiar with the process and can best represent you.  Check out Episode 33, “What Is Tax Representation?”  Just because someone prepared your taxes doesn’t mean they’re equipped to represent you.

As 2023 comes to a close and tax season looms, you need to ask yourself if your business is audit-ready?  Do you have good financial records?  How are we handling the 3-H’s of record keeping?  Is our tax preparation professional asking questions about our records?  It’s time to get ready.

One step you can take is to book a tax relief consultation with Timalyn.

If you are a tax professional who would like to help taxpayers with their audits, Timalyn strongly suggests joining her Tax Pro Representation Journey community.   

Please consider sharing this episode with your friends and family.  There are many people dealing with tax issues, and you may not know about it.  This information might be helpful to someone who really needs it.  After all, back taxes shouldn’t ruin their life either. 

As we conclude Episode 44, we encourage you to connect with Timalyn on social media. You’ll be able to subscribe to this podcast on Spotify, Apple Podcasts, Google Podcasts, and many other podcast platforms.  

Remember, Timalyn Bowens is America’s Favorite EA and she’s here to fill the tax literacy gap, one taxpayer at a time.  Thanks for listening to today’s episode.

For more information about tax relief options, visit https://www.Bowenstaxsolutions.com/ .

If you have any feedback, or suggestions for an upcoming episode topic, please submit them here:  https://www.americasfavoriteea.com/contact.

  

Disclaimer:  This podcast is for informational and educational purposes only.  It provides a framework and possible solutions for solving your tax problems, but it is not legally binding.  Please consult your tax professional regarding your specific tax situation.