Why is the IRS auditing me?

While there are many reasons that the IRS may audit you, it must first be understood how the IRS selects a tax filing for Audit. There are audits conducted just to compile data and statistics to figure out which types of industries, deductions, income and other tax related filings will provide the highest rate of return for the IRS through penalties, taxes and fines. Once the data audit is completed, the information is entered into a computer system that formulates high-risk combinations.

Now that your return has been filed, the entire return is entered into the computer at the IRS. The secret and highly guarded formula selects returns based on the probability that the filing is fraudulent, wrong or high risk. If your filing is in fact high risk, you may be selected.

While the formula is secret, we know some of the areas that the IRS data audits have found to be high risk. They include industries that deal with large cash transactions, the self-employed and a large amount of deductions to name a few. In industries that deal with large cash transactions, many times that income goes unreported therefore the IRS generally has a good chance of collecting money from those types of returns after the audit. The self-employed have an opportunity to file beneficially to the business owner, without regard for tax law. Since there is little checks and balances when an individual is self employed it makes a good bet for the IRS. Claiming a large amount of deductions, relative to that of others in your profession or industry, may alarm that formula in the computer. If the deductions are real and provide a large amount of tax savings, then certainly claim them. If the tax savings is minimal, it may be recommended to not file itemized deductions due to the possibility of an audit.

IRS tax law is complicated and open for interpretation. With that said, once you receive an audit there is little chance that some mistake won’t be found. The best thing you can do is try to avoid the audit all together by being careful, reporting all income and making educated decisions on your deductions. If you have done everything you can to complete an honest and complete tax return, do not worry. With proper documentation, representation and education, the audit can be minimal. Simply be patient, answer the questions at hand without elaboration and confer with a tax professional.

IRS Audit Representation

If you decide that you need to enlist the help of a representative, there are some items that he/she should be taking care of. For example, the representative should be able to handle your audit in such a way as to limit your exposure. The less the auditor sees of you and your business means the less vulnerable you are to further probing. Additionally, the representative should lower the risk of the auditor probing into higher risk areas, other than the specific requests for documentation made in the initial audit notification.

Tax laws are quite complex and many are left open to interpretation. With that said, a representative should be able to limit the scope of the auditor’s investigation. For example, an auditor may request to look at material deductions. The representative’s job should be to limit what the auditor considers “material” to a dollar amount with the highest threshold possible. Perhaps the representative, through the use of interpretation, can convince the auditor to examine all documents, which have a higher value than $1,000. The less documents that have to be produced is limiting your exposure and preventing you from being audited any further.

Since an auditor can go back and request prior years tax returns and documentation, it is important to produce the documents requested, and only those listed, in a timely and organized fashion. The representative should appear professional and well organized. The more timely you are in your replies and the more organized you present it, the more likely the auditor will assume that your business is handled professionally and with scrutiny.

If you choose to handle the audit without a representative, there are some tips to consider. Never leave your original documents with the IRS, never give the IRS agent more or less information than what is requested, be organized, respond timely, answer questions honestly but briefly, do not argue or be belligerent, insist on getting copies of information in their files and of anything you sign. If you have a representative accessible, have them review any documents prior to signing them. Having a representative is up to you, but being informed either way is essential.