Nothing strikes fear in the hearts of small business owners and people who work from home like the words “tax audit”.
The Internal Revenue Service (IRS) has more power than almost any other federal department. They can freeze your bank accounts and place a lien on your home. It took the IRS to bring down notorious mobster Al Capone and America’s sweetheart, Martha Stewart. The “good” news is that the IRS only audits around 1 in every 220 taxpayers.
If you’ve received a notice of a tax audit, your first step should be to take a deep breath. The IRS isn’t out to get you. They simply want to make sure that you’re paying all the taxes you owe and that the deductions you’ve taken are legitimate. After you’re feeling a little better, here are some things you need to know to prepare for an audit.
Red Flags for Small Businesses
You may be wondering “why me”? In reality, the IRS only audits a small percentage of small business owners. They look for specific red flags — items that catch their attention — on small business tax returns. If your company has too many of these red flags, you may be faced with an audit. Here are some of the most common red flags for small business owners that the IRS looks for on tax returns:
- It’s an all-cash business
- Cash transactions over $10,000
- You continue to report a net loss over multiple years
- Your vehicle use deduction seems high
- High expenses for a rental property or rental property loss claims
- A net operating loss that you carry-forward or carryback
- Low salary for the owner of the company or corporation
- High personal income
- High deductions for a home office
- High deductions for meals and entertainment
Steps to Take When Faced With an IRS Audit
The IRS isn’t going to just arrive at your doorstep one morning and want to discuss your taxes. When you’re being audited, you’re given ample time to get your records in order ahead of the meeting. There are steps you can take from the time you receive the notice until the actual audit to make the process go more smoothly. Here are a few of those steps.
Required Tools:
Things You May Need:
4 Audit Preparation Steps to Follow:
Bank statements; This can also include the monthly statements and canceled checks. They might request the bank records from your personal as well as your professional accounts.
Travel and entertainment receipts; If you took it as a deduction, you should have a matching receipt.
Electronic transaction records: These records must show the name and address of the payee, the date, and the amount for the IRS to accept them.
Vehicle records: If you deduct any portion of your personal vehicle, you need a travel log to show the portion of the mileage that was business-related. You also need gas and repair receipts.
Ledgers, Books, and Journals: While you aren’t required to keep a ledger, if you do, you must produce them for the audit. Equipment records: If you’ve deducted equipment from your taxes, you’ll need the receipts for it along with any repair records.
Appointment logs and calendars: A service-based business uses a calendar or appointment book to organize its schedule. You’ll need these records during your audit.
3 Possible Outcomes From an IRS Audit
After the auditor goes through all of your paperwork and gets answers to their questions, they’ll come to a decision. From there, there are three possible outcomes of your audit:
1. The Auditor Determines That Your Tax Returns Are Accurate
After sorting through your records, the auditor determines that your tax returns are accurate. This is the best possible result.
2. The Auditor Finds a Mistake, and You Agree
In some cases, the auditor might find an error or multiple mistakes. If you recognize the errors, then you’ll be responsible for paying the additional taxes along with interest and possible penalties. You might even find errors in your favor, and the IRS will refund the taxes.
3. The Auditor Finds an Error but You Disagree
You have 30 days after the decision to file an appeal if you disagree with an error identified by the auditor. You can even sue the IRS.
In Conclusion
At Silver Tax Group, we know how daunting an audit can seem, and we’re always ready to stand beside our clients. Contact us as soon as you receive an audit notice and we’ll help you with the entire process from A-Z.
