Help, I'm Being Audited!
When Lisa Keene received a notice from the IRS informing her of an audit, she started to panic. After she caught her breath, she called her accountant and read the notice to him. "You know, it really wasn't too bad," says Keene, a freelance writer from Central New Jersey. "All they wanted was for me to send the backup paperwork for some of my home office deductions. I can't tell you how relieved I was."
Keene was fortunate. For many others, an audit can take months or years to clear up.
Why did the IRS choose Keene for an audit? It could have been one of several factors. For instance, she recently left her full-time job to work at home. In addition to the drastic change in income, her tax return showed many itemized deductions. Even though they were legitimate business expenses, they still raised a red flag. Keene acted correctly, though. By calmly calling her tax professional and doing everything the letter asked, she completed the process quickly and painlessly.
Not to Be Ignored
"I always tell people to calm down and whatever they do, don't ignore the IRS," says Shannon Nash, a tax attorney, CPA and author of the book For the Love of Money: The 411 to Taking Control of Your Taxes and Building Your Net Worth (iUniverse, Inc., 2005). "Ignoring the IRS notice will only lead to years of heartache and a tax payment (thanks to interest and penalties) that is 10 times higher than the original amount."
What is the first thing one should do upon receiving notice of an audit? "She should call the IRS at the number provided on the IRS notice letter and request an extension of time to respond to the request," says Nash. "This will give her time to gather her records and develop an appropriate response. Typically, the IRS will grant an automatic extension up to another 30 days on the first request."
Tracy L. Coenen, a forensic accountant with Sequence, Inc., recommends gathering the necessary paperwork and calling in a professional. "Begin to gather the documentation that will support your income and expenses, and contact a tax professional who can assist you with the process," she says. "An audit is an adversarial process, and it is important to have someone on your side who can help you navigate through the system."
Nash also recommends having the tax professional do a "pre-audit" to simplify the process.
If you received notice of an audit, it's up to you to bear the burden of proof. When attending an audit, try to have the following in your possession:
- Bank statements
- Credit card statements/year-end summaries
- Real property closing statements
- Receipts for business expenses or related to improvements on your home
- Mileage logs/records
- Mortgage interest statements
- Receipts for meals and entertainment
Make sure all items are neatly organized, and bring only those applying to the year in question. You want to be able to find everything you're looking for at a glance. The last thing you want to do at an audit is fumble nervously through mounds of disorganized papers.
It's also recommended you keep the auditor's attention focused on the matter at hand. "Attempt to narrow the auditor's focus," Coenen suggests. "Ask specifically which items are being audited and provide only the documentation related to those items. Try to fully comply with the auditor's requests so that he or she does not expand the scope of the audit." Most audits focus only on one specific area of the tax return. The last thing you want to do is call attention to other areas.
Easing the Headache
There are other things to do to make the experience easier. All of the experts recommend treating the IRS representative with respect. Having a positive outlook and being cordial will only work in your favor. An auditor isn't likely to look favorably on those who are rude to him. It's best to tell yourself this person is only doing his job and it's nothing personal. Don't lie. If numbers were fudged or a mistake was made, be truthful. You may have to pay, but if you're honest you can close the matter quickly without having other areas investigated. You'll also be looked upon in a more favorable light.
Coenen advises people to be prepared and not to allow themselves to be caught off guard. Familiarize yourself with the tax return, paying particular attention to the area in question. If you brought a tax representative with you to the audit, allow him to answer as many questions as possible. Never volunteer any information unless it's absolutely necessary. Always ask which items are in question; never assume anything.
If you're being audited, you'll want it over with as soon as possible. Let's face it; audits are never convenient. The more cooperative and honest you are, the less painful it's likely to be.
Avoiding an Audit
Are you at risk for an audit? In many cases audits are random events; in other cases there are certain factors contributing toward being chosen for an audit. Here are some tips for avoiding an audit:
- Be honest. Do your best not to attract unwanted attention. Over-inflating numbers is almost the same as calling up the IRS and saying, "Audit me!" The self-employed are especially at risk. Report all income, even if it's cash or tips.
- Double and triple check your math. Many are chosen for audits because of errors on tax forms.
- Report all interest and winnings. If you won a million dollars playing slots in Las Vegas (hey, it could happen) make sure it's duly noted.
- Be fair with your deductions.
- Charitable contributions are fine, but be reasonable. Don't inflate the numbers. If you donate over $500, be sure to fill out the necessary forms.
- Your earnings should be more than your expenses. If you declared an annual salary of $40,000 it's not in your best interests to purchase a $50,000 car.
- Don't transfer large sums of money unless it's absolutely necessary. The IRS pays attention to such things and may want to know why such a transfer took place.
- Sign your return! It seems like such a silly mistake, doesn't it? Yet this is the sort of thing to catch an auditor's eye.
The self-employed and those earning over $100,000 annually are especially at risk for an audit. If you don't wish to call attention to your tax return, don't do anything to raise a red flag. When it comes to the IRS, honesty is truly the best policy.