What happens if you receive a letter or phone call from the Internal Revenue Service, informing you that your small business is being audited? Well, the first thing to do is take some deep breaths and avoid panicking. Small business audits are fairly common, and being flagged for one does not necessarily mean that the IRS has spent the last several months or years building up a monster case against you, or that a sunglass-wearing Special Agent is going to show up tomorrow with a team of forensic investigators and a stack of soon-to-be-filled boxes This is not Hollywood, and the one thing the IRS does not have much of these days is budget.
3 Different Types of Audits
The next thing you need to know, is that there are three different types of IRS audits: campus, area office, and field. Campus audits are the simplest type, and are correspondence examinations (by phone or mail) that address fairly easy-to-resolve issues like substantiation. Area office audits are for more complicated issues, and take place in an office or at a business (area office examinations for individuals sometimes take place through correspondence). Field audits are for complex tax matters, and are conducted by an officer auditor instead of a revenue agent. As the term implies, a field audit takes place at a business, or wherever records, books or source documents are stored.
How to Survive a Small Business Audit
Now that you have avoided (or stopped) panicking, and are aware of the three different types of audits, the next thing you want to do is ensure that you get through this process as quickly and painlessly as possible. To that end, here is what to keep in mind:
- Hire an Experienced Tax Attorney
Hiring an attorney will not “make you look guilty.” This is not CSI or Law and Order. Contrary to popular belief, the IRS often prefers it when small business owners (along with all other taxpayers under audit) retain legal counsel, since it makes the process more efficient and streamlined. Just make sure your attorney has plenty of experience with the IRS, and is certified to argue your case in U.S. Tax Court if it comes to that. For more information click here.
- Stick to the Facts
Some taxpayers volunteer far too much information to the IRS, such as shedding light on other aspects of their business, or making statements about filings from previous years. Of course, the challenge here is that the line between honestly and completely answering a question (which is good) and volunteering extraneous and potentially damaging information (which is bad) is fuzzy — and agents are trained to let you dig as deep a hole as you wish. This is another area where having a tax attorney accompany you and handle all correspondence is vital.
- Start Collecting and Organizing All Documentation
Ensure that you have all of your receipts and tax records for the year(s) that you’re being audited. And contrary to what some people mistakenly advise: don’t bring tax records from other years (i.e. those that aren’t under audit). This is part of the “too much information” warning described above. If the examining agent has cause to ask for other years, he or she will do so.
The Bottom Line
Preparing for a small business audit isn’t fun. But it’s not traumatic, either. Keep the above in mind and you’ll make it through this process with your emotional and financial health intact, and your small business compliant and on-track. For tips on how to avoid a tax audit, check out this blog post.