You’re getting audited – now what?
— Charley Moore is the founder and chairman of Rocket Lawyer Incorporated. He advises both early stage companies, large enterprises and their investors on strategic partnering and corporate development strategy. The views expressed are his own. —
Getting a letter from the IRS is enough to instill fear and trepidation in the minds of many small business owners. Opening the envelope to reveal a tax audit notice can be the thing of nightmares. After the panic attack subsides, there are things you can and should do to prepare for a tax audit. It doesn’t have to be as intimidating as it sounds, as long as you take it step by step.
1. Find out specifically why your return is being audited.
While the IRS is supposed to tell you why your return was selected, if they don’t, it’s up to you to ask. Your taxes can be audited for a variety of reasons:
- specific activity on your return, such as cash wages, 1099 and W-2 forms that don’t match your reporting, high deductions relative to your income, reports inconsistent with previous years, etc.
- related examinations, where your report involved transactions with someone else who is being audited
- automatic flags, where computer programs find outlying “scores” on returns (ex: above average withholding)
- random selection
Once you know what you’re being audited for, you can narrow your focus and start gathering the relevant documents.
2. Find out how the IRS is conducting your audit.
There are different types of tax audits, each with their own requirements. Knowing how you are being audited will help you determine what documents you need, where to send them, and whether you need a tax lawyer. Here are the ways the IRS conducts tax audits:
- Correspondence audit: the IRS service center asks you to send copies of cancelled checks and receipts to their office so they can verify the deductions on your return remotely.
- Office audit: the IRS Service Center asks you to bring certain documents in to your local IRS office. The audit is conducted there.
- Field audit: an IRS agent comes to your place of business to conduct the audit in person.
- Taxpayer Compliance Measurement Program audit: this is the most extensive type of audit, where every part of your tax return must be substantiated by documents, including birth and marriage certificates. The primary purpose of this audit is to update the data used to write the computer scoring program.
3. Gather the appropriate documentation.
Once you know what is expected of you, you can start going through your records to find the relevant receipts and documents. Never send in your original documents or your only copy, and never send in more than is requested. If you can’t find relevant documentation, immediately request duplicates, since the auditors won’t accept that the records are missing or lost.
Once you have all your copies and originals, get them organized, especially if you are facing an in-person audit — good organization shows the agent that you are a responsible taxpayer, and may result in the agent limiting the scope of their investigation.
4. Get the help of a professional if needed.
As soon as you receive notification of an IRS tax audit, contact the tax advisor who prepared your return. He or she can explain the audit process in more detail and help you prepare. If you are still nervous about the audit (and especially if you have a field auditor coming to your workplace) it’s a good idea to hire a professional tax lawyer.