How to avoid a tax audit this season

The IRS tax filing deadline of April 15 is fast approaching and if you haven’t done so already – it’s important you take all the steps necessary to ensure you filed correctly. Furthermore, tax returns remain open to audit for three years after the date filed, so any filing mistakes you make now can come back to haunt you down the road. Going through a state or federal income tax audit can be costly both in terms of tax provider help and necessary time away from your business. While filing can seem daunting and overwhelming, keep it simple and follow these simple rules from the start.

  1. Tax payment and filing due dates should be respected. Whatever else you do, get the tax paid by the initial due date and the forms in by the extended due date. Use the correct form for payments, usually a “voucher,” and keep certified mailing receipts and records on payments. Although tax returns can be extended, the actual tax payment cannot. If you do not pay on time, penalties will apply and you will receive additional correspondence from the IRS.
  1. Most business tax returns (1065, 1120, 1120S) will ask questions about the ownership and income of the business. Carefully review your answers. A common error is neglecting to file information returns such as 1099s and 1042Ss. Filing correct information returns for payments to contractors and foreign filings such as 1042S may require the assistance of a tax professional, as the federal business income returns include questions regarding these forms. If you don’t have a trusted CPA, you can work with a company like LegalZoom that offers tax advice through their legal plans.
  1. Complete the proper forms for cross border banking transactions if you have foreign bank accounts or signatory authority over a foreign account for your employer. FBAR (reports of foreign bank and financial accounts) reporting and regulations have changed, requiring more filings. It is generally a good idea to get professional tax advice when doing business in multiple countries.
  1. Owner loans may have imputed interest. The best policy is to repay partner or shareholder loans by year end. If that is not an option, keep a written loan agreement for any loans that extend past the end of the year, with interest payments indicated and paid timely. Remember, from a tax standpoint, an LLC, partnership, C corporation or S corporation is a different entity from its owners and all business dealings should be treated that way.
  1. Some key officer life insurance contracts may require additional filings to protect the recipient from tax on the proceeds. If you pay life insurance premiums for key employees, additional filings may be required. Review these rules with your tax advisor.
  1. Deductions for home office expenses and personal use of vehicles require the business to complete and include additional tax forms in the return. Hopefully you’ve maintained the records required for these tax forms and you have all the documents you need to include complete information with your business tax return.
  1. Great care should be applied to reporting losses from unusual events of prior years. A commonly overlooked tax benefit is to take advantage of the write-off of bad business debts, casualty losses and the carry forward or carryback of business losses from prior years. This may be an area of scrutiny by the IRS because of the potential for reductions in tax on current ordinary business income, so consult a tax advisor if you decide to take advantage of these benefits and do take these deductions.
  1. Always have a good defense for any questionable tax positions. If your tax advisor suggests something that is unusual or appears exceptionally beneficial, document your conversation or, better yet, request that he or she put the suggestion in writing and include tax source references to the IRS code, regulations, or other substantial support.
  1. One last tip: prior to submitting your tax return, review it side-by-side with the prior year’s return. It is likely that changes in tax line items or substantial increases or decreases in income or expenses would be a good way for the IRS to choose a return for a tax audit. Although this is not indicated in the form instructions, it is a good policy to review all fluctuations between years to ensure the returns are being filed correctly.

Keep in mind: filing a correct return does not guarantee that you will not be audited. The “selection” process used by the IRS is a big secret. Overall, the IRS only audits less than 1 percent of tax returns; however, that rate can double for returns with high incomes. Do what you can to avoid a tax audit by being consistent, accurate, complete and timely.

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