Avoiding an audit; preparing for an audit; going through one. All federal income tax returns are run through Internal Revenue Service (IRS) computers, which check the arithmetic and flag returns that have errors. The computers may also flag returns with higher-than-average or unusual deductions for someone of a given income level or filing status. Your retum may well be flagged if you claim a very large deduction for charity or a casualty loss; if you claim deductions for child rearing and file as a single taxpayer (not a single head of household); if you take deductions for an office in your home; if you deduct exceptionally high alimony payments; if you claim a large number of exemptions for dependents not living in your home; or if you own your own business.
Computers do not decide which returns to audit. They simply bring a questionable return to the attention of an IRS examiner. He or she reviews the return to decide whether it will be audited. Don’t be afraid to take large deductions that you are entitled to, as long as you can prove that they are legitimate. Photocopies of bank records showing exceptionally high home mortgage or investment interest payments, proof of business-related expenses, proof of a casualty loss, or copies of receipts for charitable deductions usually suffice.
There is no surefire way to avoid an audit, even if your tax return is uncomplicated. A small number of returns are randomly selected for audit every three years so that the IRS can statistically measure and evaluate the characteristics of taxpayers. The higher your income, the likelier you are to be audited. People who live in certain areas, such as Chicago, Los Angeles, and Manhattan in New York City, may be more apt to be audited than those who live elsewhere.
The IRS can audit a return up to 3 years after its due date or the date it was filed, whichever was later. Keep all tax records handy for at least that long.
Preparing for an audit
If you are called in for an audit (usually by letter), don’t panic. An audit notice is not an accusation of wrongdoing; it is merely an invitation to clear up a problem on your return. Up to a quarter of all audits end with no additional payment by the taxpayer or with a refund to the taxpayer.
Although some audits are done by mail, an audit notice usually requests your presence at a local IRS office at a suggested time. You may request a more convenient time, but if you fail to show up without rescheduling the meeting, the IRS can rule on your return without your being there to explain or challenge. The IRS can also have a court force you to attend.
You can consult an accountant, a tax attorney, or other tax expert to help you prepare for an audit, but often this is unnecessary. There are many books written for the layman about tax law, including some good ones by the IRS, which will give you a clear idea of what you need to know for most audits.
If you feel the issues of the audit are likely to be too complex for you to understand, or if you are afraid you will be charged with tax fraud-such as concealing income or falsifying deductions-consult an expert. If the expert is an attorney, he or she can offer advice on the law and the strategies to adopt for dealing with the IRS.
You can have the expert accompany you or represent you at the audit. If you go alone, but then feel that you cannot adequately explain your position, ask to reschedule the meeting and have an expert return with you.
The audit notice will tell you the items on your return that are in question. Bring in all of your records for those items-canceled checks, cash receipts, credit card receipts, legal documents. Review your records before the audit so that you will be able to discuss them with some familiarity. Do not bring any records that do not pertain to the disputed items. The auditor may review other parts of your return if you draw attention to them.
At the audit the examiner will discuss the points of the tax law pertinent to your case, examine your records, and listen to your explanations. Treat your auditor in an open, cooperative manner, but don’t volunteer information you are not asked for. If you think your examiner is acting improperly, ask to see his or her supervisor.
An audit can end after only one meeting, or it can extend over several. You maybe asked to submit additional information by mail. After the audit, the IRS will send you a report, informing you if there is a deficiency (you owe the Government money) and why. If the IRS owes you money, it will send it to you. If there is a deficiency, you sign an agreement form and pay the tax due. If you disagree, your examiner will explain what you do next to resolve the dispute.