Avoid Tax Audits… Keep Your Books Clean…

Just finished gathering my annual tax information, so taxes are on my mind. It gets shipped out tomorrow to my accountant, who (as a consultant) will do the financial magic.

Years ago my accountant advised me to keep good records and to keep them clean. One never knows when one might be audited. Sometimes it is purely random, and sometimes it is the result of an abnormal condition that flags your return. .

According to a recent news article, 1 % of IRS tax returns are audited. It is slightly higher for small businesses. It seems some business owners can’t resist the temptation to fudge the numbers, either through questionable deductions or hiding income.

My advice — do NOT do this! An audit can easily cost you thousands of dollars — fees, lost time, and lost revenues. And while you can deduct the legal/accounting expenses, you can’t deduct or recover lost revenues — they are gone forever.

Furthermore, once you fail an audit, expect to be audited again. I know one small business colleague who learned that lesson the hard way. His audits went on for several years.

More advice — use a CPA! Even if you can do the taxes yourself. Nothing like having a CPA (Certified Public Accountant) sign your tax return for credibility with the tax agencies. Or at least signal them that you have a professional tax advisor in your corner.

To keep the costs down, I keep my own books. Nothing fancy here — I used Quicken for years. Although a simple check register system, it can generate various reports. Such as the P&L (profit and loss) statement, which my CPA uses to prepare my taxes.

My CPA has helped in several other ways. Setting up a chart of accounts, sharing general business advice, filing other reports, and providing vetted referrals for insurance and financial management. It has been money well spent.

If you do get audited, don’t despair. I’ve been audited twice — once by the IRS, and once by the great state of Arizona.

The IRS audit was supposedly “random.”

The conversation went something like this:

Auditor – Which is better for you? To come into our office next Tuesday or next Wednesday?

Me — Neither. But can my CPA handle this? He prepared the return.

Auditor — Uh… yes… I guess that would work.

I suspect the audit was not random at all. But the issue got resolved, whatever it was.

End of audit.

The Arizona audit was supposedly due to high medical expenses one year.

The conversations went something like this:

Auditor – I need to verify all your medical expenses.

So I sent copies of all the bills.

Auditor – Now I need to verify all your insurance payments.

So I sent copies of all the payments.

Pretty sure the auditor thought I did not save these statements. I also included a list of expenses I had missed — a couple of drug charges, plus mileage for the various medical appointments.

I then asked if I should file an amended return to get money back.

End of audit.

Thanks to a CPA, clean books, and good records, I passed both times. And I didn’t lose any sleep over either one. In fact, it felt pretty good to put a stop to any fishing expeditions.

Keep your books clean too — it is just good business to do so!

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