When taxpayers receive the dreaded notice that their business is going to be examined by the Internal Revenue Service (“IRS”), the first thing they do is seek your advice. If you prepared the return, you already know there is nothing to worry about because the tax return is perfect in every way! So, of course, for the purposes of this column, we are talking about the new client who walks in with the tax return prepared by that “other CPA,” – not you!
1. Carefully Read the Communication
Carefully determine the type of examination taking place and what, precisely, is being examined. The IRS notice may pertain to a field examination, an office audit or a correspondence examination. In addition to these three primary types of examination methods which have the potential to adjust taxpayers’ liabilities, there are under-reporter notices (CP-2000), specialized audits of tax credits (i.e. earned income credit) and substitute for return (SFR) procedures. This article addresses only field and office examinations. Field examinations are conducted by Revenue Agents while office audits are conducted by Tax Compliance Officers.
2. Speak Directly with the Revenue Agent/Tax Compliance Officer
Call and introduce yourself to the Revenue Agent (RA) or Tax Compliance Officer (TCO) conducting the examination (the “Auditor”). IRS employees are people too. This should be a cooperative and friendly discussion. How you approach and deal with them will impact upon the success or failure of your representation.
Be sure to call before the response date on the examination notice. If the notice provides a date for a meeting, be sure to call well in advance of that meeting as it is likely (and permissible) that you will need to reschedule. As you negotiate a date and time convenient for you, allow sufficient time to conduct a thorough pre-audit.
Try to narrow the issues. For example, work with the Auditor to choose the expense categories to audit from the larger amounts on the tax return. Often, a relatively small number of categories will represent 70 – 85% of the total expenses of a business. I prepare a spreadsheet for my own use to determine that I am hitting this target range. To get the auditor’s “buy-in” I usually make it clear during the conversation that I understand that if we cannot substantially document the selected categories, that the Auditor may expand the scope of the examination. Generally, if I can show that there is a competent set of books and records, and can fully document the larger expense categories, there will be no need to look at the smaller categories. In some cases, I take the approach of having the Auditor choose the expense categories, recognizing that they are in control of the examination. Recognize that it is in both the taxpayer’s and the IRS’s interests to have an efficient examination.
Generally, you will encounter more productive discussions with RAs than TCOs. RAs are higher on the IRS pay and talent scales, more highly trained and have more flexibility in their workload allocation. TCOs are given a greater workload and are conducting the examinations in their offices, usually at their desks. Often, I have found TCOs to be autocratic and inflexible. In such cases, learn how to say, "Please give me the name and telephone number of your manager,” and, "Who is the Territory Manager?" and then be prepared to make the appropriate calls. Such calls work, even if the IRS employee states, “my manager will tell you the same as I did,” as they often do.
Recently, the IRS has been requesting electronic records of Taxpayers. The submission of such records could be damaging to our clients. The withholding of such records has not yet been tested in court. Up through the writing of this article, I have not turned over such records, with the following rationales:
- The records contain confidential information (i.e. doctor patients, attorney clients);
- The accounting file (often QuickBooks for small businesses) is not a true set of books and records and could be misleading; or/and
- We can document expenditures adequately through print-outs of selected reports.
But, before long, the IRS may insist on such records and test their power to do so through the courts. In the meantime, I recommend against turning over taxpayer electronic records unless and until the IRS issues a subpoena to do so.
Contact E. Martin Davidoff, CPA, Esq. at
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