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What Type of Documentation Will I Need in an IRS Audit?

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Key Takeaways

  • So when you get your initial audit notice, there’s usually an information document request that is attached to that notice or you’ll be instructed to contact the auditor and they’ll send you a docu…
  • Generally speaking, audits are focused on one of two things.
  • They’re either income side audits or they’re expense side audits because typically people will either under report income or they overstate expenses but they won’t do both.

So when you get your initial audit notice, there’s usually an information document request that is attached to that notice or you’ll be instructed to contact the auditor and they’ll send you a document request based on that initial conversation. Document requests generally swing one of two ways: there are the document requests where the auditors put time and thought into it and then there are document requests that serve as what we call “fishing expeditions” where they just throw everything in the kitchen sink into the document request. Generally speaking, audits are focused on one of two things. They’re either income side audits or they’re expense side audits because typically people will either under report income or they overstate expenses but they won’t do both. If you see a document request that contains income items and expenses, it could be a sign that the auditor is engaging in a fishing expedition or it could be that they genuinely want to see both your income and your expenses depending on why your return was selected for audit which the auditor may or may not tell you. That’ll be a good indication of what they’re going to ask for. For example, most people if I ask them honestly probably could tell me why they think their return was selected for audit because the returns that get selected for audit usually contain some method of error and most clients deep down are generally aware of it. There might be some cause for concern but generally speaking the IRS is going to be focused on the substantiation of expenses. They’re going to be focused on substantiation of income and some interplay between those two and that’ll give you an idea of what documents you’re going to be asked to provide.

How Thorough Are IRS Audits?

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Key Takeaways

  • For example if you’re running a captive insurance company, they may not be concerned about your ordinary and necessary business expenses, they’re going to go after the captive insurance company.
  • So IRS audits tend to be generally pretty thorough because what happens is the auditor is operating off a checklist and so the auditor wants to make sure that when they’re doing an examination, the…
  • If it doesn’t come out okay, then the auditor’s going to dig down and so what we refer to when an auditor digs down is sometimes they engage on a fishing expedition which is where they’ll throw a w…


Well it depends so as I’ve explained previously the IRS has very limited resources and they’re not there to waste time; however once the IRS has you under examination, it’s not like they’re just gonna look at one particular issue and then go away unless you have a super technical legal issue that is the reason that you got audited. For example if you’re running a captive insurance company, they may not be concerned about your ordinary and necessary business expenses, they’re going to go after the captive insurance company. So IRS audits tend to be generally pretty thorough because what happens is the auditor is operating off a checklist and so the auditor wants to make sure that when they’re doing an examination, they’re actually examining it. Generally what happens is the auditor will spot a couple of different categories, they’ll look at a couple of expense categories, they’ll look at a couple of income categories, they’ll do a bank reconciliation, something like that and then if that comes out okay, then the auditor is not going to dig any deeper. If it doesn’t come out okay, then the auditor’s going to dig down and so what we refer to when an auditor digs down is sometimes they engage on a fishing expedition which is where they’ll throw a whole bunch of things out there and see what sticks. But then the other thing that they can do is that if they find an error they’ll, start digging into everything and they’ll use the inaccuracy in one category to open up all the other categories on the return and go digging through. So you want to try to avoid that situation if you can but just understand that particularly if you’ve been assigned to a field agent and that person is either coming out to your house or coming out to your business, that person’s going to do their job and they’re going to be pretty thorough with their examination.

What Information Am I Legally Obligated to Provide During an IRS Audit?

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Key Takeaways

  • Well the answer to that is pretty much everything.
  • Once you’re under examination, the government has pretty broad latitude to investigate anything they think is relevant.
  • If you don’t provide something, then the IRS agent has the authority to issue a summons for something.

Well the answer to that is pretty much everything. Once you’re under examination, the government has pretty broad latitude to investigate anything they think is relevant. If you don’t provide something, then the IRS agent has the authority to issue a summons for something. A summons is a demand that you produce records. So let’s say you didn’t want to produce your bank records. The IRS could summons you and command you to bring them down or the IRS could summons the third party like a bank and demand production of that document. If for some reason you still didn’t produce the records after the summons, then the IRS could get district counsel involved and they can go to court and enforce the summons order. So what will happen a lot of the times is people will make a serious error on their taxes, like they’ll leave off income and then they won’t want to provide the evidence to the IRS to kind of hide their tracks. But the problem with that is the IRS in a lot of cases can get the information anyway so if you don’t provide it to them and make it easy on them, they’ll do it by force, so just understand walking into this that the IRS has very broad authority to gather the information it needs to conduct an examination. The government has given the IRS very broad latitude when it comes to audits because they want them to be effective so realize that if you’re asked to produce a document, you’re probably going to be asked to turn it over.

How Does the IRS Select People for Audit?

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Key Takeaways

  • So the IRS has been processing tax returns and auditing people for a very very long time.
  • It’s very good at auditing people and understanding that the government has limited resources.
  • It really focuses on the areas where it thinks it can get the biggest win.

So the IRS has been processing tax returns and auditing people for a very very long time. It’s very good at auditing people and understanding that the government has limited resources. It really focuses on the areas where it thinks it can get the biggest win. The biggest win translates to how much additional tax revenue can we raise through examination, so the IRS has developed a statistical body of data points and depending on the relationship that your return has to those data points dictates how likely you are to get audited. So what happens is a taxpayer will file a tax return and that tax return will get scored by two methods that the IRS uses to score returns. One is called the day of to score and one is called a UI dif or just dif stands for discriminate income function. So what the IRS is looking for when it scores returns based on a dif score is the IRS is looking at the pretense or error in the taxpayers return. So for example if it sees expenses that are being taken that are not in line with you through the profession or not in line with the level of income that’s on the return or a couple of other factors, then that return will generally receive a high dif score and be subject to audit. A high dif score translates to we think, this return is of a higher propensity for error. When they do a UI dif score they’re looking at the propensity the return has high levels of unreported income. So the IRS uses those two scores, they select people based on where they fall within a data pool and then they kind of go from there determining who gets audited eventually. This is all computer-based. Eventually this gets to a manual reviewer and there’s a human being who looks through this and makes you see but the IRS uses statistics as much as possible to get a pool of returns that it feels are appropriate for audit and then it selects the quote-unquote low-hanging fruit: the ones that it thinks they can get the most adjustments out of.

How Many Years Back Does the IRS Go in an Audit?

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Key Takeaways

  • So the IRS usually will start with one year if you get an audit notice and if there are multiple years, that’s an immediate red flag that there’s a serious issue.
  • Generally speaking the IRS’s audit period has a three-year statute of limitations so the IRS generally doesn’t go back to more than three years when doing an audit.
  • So if you actually went to the IRS and you talked to an auditor and you had them show their initial file when the IRS selects your return for audit, what happens is there’s a three year comparison …

We don’t know. So the IRS usually will start with one year if you get an audit notice and if there are multiple years, that’s an immediate red flag that there’s a serious issue. Generally speaking the IRS’s audit period has a three-year statute of limitations so the IRS generally doesn’t go back to more than three years when doing an audit. So if you actually went to the IRS and you talked to an auditor and you had them show their initial file when the IRS selects your return for audit, what happens is there’s a three year comparison of income and certain items that are on the return. So the IRS is generally looking for audits from a three-year perspective. Most audits will go three years. Now in the case that there’s a substantial underreporting of income, then the IRS will go back up to six years. If the government feels that the taxpayer has committed fraud then the IRS can technically go back indefinitely but it’s only in those cases that will they go back longer than the three-year period. If there is a substantial understatement then they will go back up to six but generally speaking they keep it within the three-year mark. So again what they usually do is they’ll start with a year, they’ll see if there’s errors in there because the government is not about creating more work for itself than it needs to, and then if they find errors in one year they’ll open up the entire audit period. If they find substantial underreporting of income then they’ll open up a six year period but that’s generally how long the government is going back when in audits tax returns.

What Is the Best Strategy to Take When Being Audited?

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So the first thing that we say to our clients is that you have the advantage in an audit. Number one, you’re the taxpayer and number two, you have access to all the documents so the government is put in a position where they’re asking you for records. You have the opportunity to control both the scope of the information that’s being provided and to control what information you provide so you’re controlling the scope and you get to edit out within that scope what actually gets provided. You have a lot of choice. What I tell our team is “you can’t control bad cards.” So for example if a tax return is unreported by $100,000 in income, you’re probably not going to be able to hide that but the advantage that you get in an audit is you can control the order in which the cards are being dealt. So the very first thing that we do in an audit is we like to know why the taxpayer has been audited. We look at the return and then we go through a pre audit, so we put the tax return through the same level of scrutiny. We’re actually using more scrutiny than what the IRS is going to put it through so we’re looking for issues that could come up. We’re determining whether things are a big deal, a little deal or not a deal at all and so we’re actively looking at those issues and we’re pre-screening things. Once we pre-screen things, then we develop an audit strategy and this has nothing to do with the IRS. This has to do with how are we going to present

Key Takeaways

  • So the first thing that we say to our clients is that you have the advantage in an audit. Number one, you’re the taxpayer and number two, you have access to all the documents so the government is put in a position where they’re asking you for records.
  • the audit to the auditor when the time comes. So for example in a case of somebody under reporting $100,000 in income, the first question is the order they’re going to find it. The auditor is going to find it so there’s no reason to try and hide.

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If I Get Audited What Is the Likelihood That I Am Going to Get Audited Again?

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Key Takeaways

  • Topic: If I Get Audited What Is the Likelihood That I Am Going to Get Audited Again?
  • Read the full article below for complete details on this topic.

If I Get Audited What Is the Likelihood That I Am Going to Get Audited Again? So the first thing it depends on is what are you being audited for are you being audited for a one-off mistake are you being audited for a serious underreporting of income or an overstatement in actions what’s the issue and then based on how the audit goes what’s the correction is it a substantial correction as an a minimal correction are you getting penalized with your fraud issues involved audits are meant as a check so again the IRS is verifying that the story you’re telling the government is an accurate story if there’s reason for the government to believe that that story may continue in the future then you’ll probably pop back up on the IRS as radar again knows you have a history of non-compliance if you’re under reporting cash or something like that the IRS will probably take a look at the return understand that the IRS operates based largely on statistics so when they look at returns and when they look at taxpayers on whether they’re gonna get audited they’ll compare the return that was audited the adjustment that was made and then they’ll compare a later year return and any any similar issues on that return to the first return decide whether or not they want to get a lot of it most taxpayers if you go through an audit you’ve pretty much learned your lesson and you never want to go through it again so whatever the errors are that happened the first time around the hope is that they’ll get corrected, but the audit the IRS does audit multiple years they can audit in the future and yes once you’re on the autumn list. They will protect they will pick up ears if they feel that there is the potential for a future adjustment so the best thing that you can do to protect yourself from being audited again is to learn from your mistakes the first time and to minimize those mistakes going for and in the future .

How to Deal With Collections Issues for High Net Worth Clients

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So high net worth clients present several challenges. From dealing with things from an IRS perspective, the first challenge that you’re going to have is that high net worth clients don’t fall within the IRS’ unusual guidelines for ordinary and necessary expenses. So take for example San Diego. For a single person living in San Diego, the local housing and utilities standard is about $2,500 a month, so the IRS allows you $2,500 a month as a single person for your housing and utilities. I always play a fun exercise to see where you can get housing for a single one-bedroom apartment for $2,500 a month in San Diego including your utilities and the reality of the situation is you can go to Oceanside which is 45 minutes north of here or you can go to Tijuana which is 45 minutes south. And those are about the only places where you’re going to find $2,500 a month rate including housing and utilities but for high net worth clients this presents a big problem because number one you’re dealing with income levels that are way above the IRS as ordinary standards so the fact of the matter is you may have somebody with an $8,000 mortgage or $10,000 mortgage or $25,000. Just because

Key Takeaways

  • the IRS disallows that $25,000 mortgage or at least a large chunk of it doesn’t mean the taxpayer isn’t actually paying that much for their mortgage.
  • I do in a whole year, why can’t they pay their taxes. The reality is that’s slightly insensitive to the particular person’s situation in my experience. When a client has more money their situation is more complicated.

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Should I Represent Myself in an IRS Audit?

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Well it depends, but not usually. First of all, the mistake that a lot of taxpayers make is they think that they can handle the audit because they think either a they’re smarter than the auditor or the errors on the return aren’t really that severe. The problem with that is a taxpayer who goes into a situation with an auditor, unless that taxpayer is a tax attorney or a CPA, is probably not going to have the same level of knowledge about how audits work as the auditor. So even if the taxpayer is familiar with the law, the taxpayer is generally not familiar with the way that audits work and the procedure with that and so the risk is that even if the tax loss is minimal, the taxpayer could potentially put themselves into a damaging situation. So for example, if you’re not really used to changing tires and you get a flat tire on the road, yes you could change the tire yourself. There is the possibility that you’ll do a reasonably good job and change the tire and then everything will be okay, but there’s also the possibility that you might make a mistake. If you believe that there is a mistake on your return and if that mistake is significant, meaning it’s over five thousand dollars in tax back to the government, then you may want to consider hiring a representative to help you because once you get into a situation where there’s an audit and their adjustments are being made, then the penalty conversation comes into play and so the more adjustments that are made on the return, the more it increases

Key Takeaways

  • Well it depends, but not usually. First of all, the mistake that a lot of taxpayers make is they think that they can handle the audit because they think either a they’re smarter than the auditor or the errors on the return aren’t really that severe.
  • the likelihood that the auditor is going to penalize the taxpayer.

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Should I Hire the CPA Who Prepared My Tax Return to Represent Me in an Audit?

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So your CPA maybe the best CPA in the world and this conversation is not to suggest it anything negative about CPAs whom we work with all the time, who are a huge asset to our practice and I don’t think any of the CPAs that we work with would have any problem with me saying this. The CPAs generally are not good in audits and they’re not good because they don’t do a lot of audits. From a CPA perspective, a CPA is compliance based. CPAs are focused most of the time on preparing returns and preparing them accurately. They have a whole living based on being a CPA which is a certified public accountant. A certified public accountant is an individual who is certified to prepare financial statements so the reality of the situation is when a CPA is charged with compliance, and if there is any doubt as to that compliance meaning, there are errors on the tax return the CPA prepared, then there’s a natural conflict of interest because either

Key Takeaways

  • The CPAs generally are not good in audits and they’re not good because they don’t do a lot of audits.
  • From a CPA perspective, a CPA is compliance based.
  • CPAs are focused most of the time on preparing returns and preparing them accurately.

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Brotman Law Featured in Inc. Magazine - Fastest Growing Law Firm in California