What to do when the postman rings twice - with an IRS audit notice
Time was, there was a taxpaying season and a tax-audit season. The paying season, between early January and April 15, was when taxpayers scrambled to get their records together and their returns out. The audit season came a few months later, when the Internal Revenue Service began sending out most of those unpleasant notices.Skip to next paragraph
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No longer. Like basketball and hockey play-offs, which seem to be closing in on baseball's All-Star break, the tax seasons are spreading and blurring. More taxpayers are filing for and receiving extensions and the IRS is busy with audits throughout the year.
In recent years, it has been said that about 1.5 percent of taxpayers are audited, and about 5 percent of those with incomes over $50,000. But for people in the 50 percent bracket (taxable income in 1983 of $55,300 for singles, $109, 400 for people filing jointly), the chances of an audit have gone up dramatically, to perhaps as high as 40 percent.
In addition to income, there are two other areas where the IRS has become particularly sensitive: tax shelters and a related item, the alternative minimum tax.
''Getting involved in a tax shelter helps increase your chances of an audit, '' says Steven Robin, a tax manager in Arthur Andersen's Chicago office. ''But it doesn't assure an audit - unless the expenses of a shelter are reducing taxable income so low in relationship to your gross income that it raises flags.''
The IRS's primary efforts in this area, Mr. Robin said, are to go after the partnerships offering the shelter. So if you are a limited partner in a tax shelter and you get an audit notice, contact the general partners. They probably have already heard from the IRS and will know the specific problems, like high deductions in relation to the limited partners' cash investment.
The alternative minimum tax (AMT) is designed to make sure people don't completely avoid taxes because of investments. If you file a joint return and have $50,000 or more of taxable income and a similar amount of tax preference items that you are deducting as a result of being in a shelter (including the 60 percent untaxed portion of capital gains and the price break you get from stock options), you will be a candidate for an audit if you didn't use the AMT.
The AMT is a flat 20 percent of alternative minimum taxable income. You must pay the greater of the AMT (as reduced by refundable credits) or the regular tax (as reduced by all allowable credits).
If, in spite of your precautions with tax shelters, the AMT, and all other areas, you still get an audit notice, what do you do?
Contact your professional tax preparer, if you used one, immediately. The preparer has the information about your return, knows the thinking that went into preparing it, and - most important - has sat face to face with IRS auditors before.
Also, a good tax lawyer or accountant will often be more up to date on tax laws and recent tax court rulings than the agent. So if the agent challenges a claim, your representative can keep you from caving in immediately.
In most cases, the taxpayer does not go with the preparer to the audit. In fact, most preparers prefer to go alone. Apprehensive taxpayers tend to blurt things out in front of auditors. ''The preparers handle everything,'' Mr. Robin says. ''The individual gets involved only if additional background is needed.'' Even then, the preparer will often get the information from the client.
In general, there are two kinds of IRS audits, an office audit and a field audit. In an office audit, there are just a few items the agent wants to go over with you (or your preparer) in the agent's office. These items are checked on a form that accompanies the letter so you know what supporting documents to bring.
Sometimes you can handle the office audit by mail. When you get the letter calling for the audit, you may be able to photocopy the documents supporting questioned claims, write a letter of explanation, and send it all to the agent. If you don't hear any more about it, the explanation was probably accepted, though you might want to call in a week or so to make sure.
If this is not enough and you do have to go to the agent's office, either alone or with your preparer, discuss only those items that were checked in the letter. If other questions come up, you are entitled to more time to prepare materials to answer them.
In a field audit, conducted in your office or home, or the preparer's office, your entire return and all supporting documents are to be examined. Everything related to your return is open to examination, but even here the agent will often concentrate on specific areas to save time.
Another reason for having professional help, which you should have if you're involved in tax shelters at all, or heavily involved in investments, is that the accountant or lawyer will keep you from giving up the right to take disputes through the IRS appeal procedure, including its Appeals Office and the tax courts. One way people give up this right is by signing a document known as an ''agreement form.'' When you sign this form, you are stating that you agree with the changes made and will pay any overdue taxes. Unless you are absolutely sure the agent is correct - if the question is over an obvious mistake in arithmetic, for example - don't sign this form without having a professional counsel go over it first.
Tax specialists also recommend that people keep year-round, up-to-date records and prepare every return as if an audit were expected. The best defense against an unfavorable audit are precise records and documentation.