Preparing for an IRS Audit
And other common agency audit requests . . .
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Although Rutherford & Johnson, P.C. has made every reasonable effort to ensure that the information provided is accurate, Rutherford & Johnson, P.C., and its shareholders, managers and staff, make no warranties, expressed or implied, on the information provided. The participant accepts the information as is and assumes all responsibility for the use of such information.
Presented by
Angela L. Rudolph, CPA
Rutherford & Johnson, P.C.
Winchester, Virginia
What is an Audit?
• An unbiased examination and evaluation of the
financial statements of an organization. It can be done internally (by employees of the organization) or
externally (by an outside firm).
• An IRS examination of a taxpayer’s return or other
transactions. The IRS performs this examination to verify the accuracy of these filings.
• A report of problems you didn’t know you had in ways
What is an Audit?
• Other agencies to consider:
•Department of Labor
•State Unemployment
•Worker’s Compensation
•Sales Tax
Types of IRS Audits
• Correspondence Audit
– IRS sends letter in mail requesting more information about a part of a tax return. • Office Audit
– Invitation to the IRS office for a meeting, attendance required.
• Field Audit
Audit Statistics: Business
Audit Targets
FY 2010 FY 2011 FY 2012Corporation with total assets up to $10M .94% 1.02% 1.12% Corporation with total assets > $10M 16.58% 17.64% 17.78% S Corporations .37% .42% .48% Partnerships .38% .40% .47%
Audit Statistics: Individual
Audit Targets
2008FY 2009FY 2010FY 2011FY 2012FY 2013FY Income < $200,000 .95% .96% 1.0% 1.0% .94% .88% Income > $200,000 < $1,000,000 2.9% 2.9% 3.1% 3.9% 3.7% 3.3% Income > $1,000,000 5.6% 6.4% 8.4% 12.5% 12.1% 10.9%Red Flag – Audit Triggers
• Mathematical Errors
– If the lines on your tax return do not add correctly chances are you will receive a letter from the IRS requesting clarification.
• Higher Income
– Income over $1M for individuals reveals a much higher rate. (Corporations Assets > $10M)
Red Flag – Audit Triggers
• Informational Returns Matching – 1099’s (MISC, INT, B, R, S, etc) – 1098’s
Red Flag – Audit Triggers
• Proportionate Expenses / Activity
– Computer Scoring (UIDIF) Unreported Income Discriminant
Function System
– Score given to each return to rate the potential of unreported
income. High scoring returns may get selected for audit.
– There are ranges of typical itemized deductions and other
statistical data that help to reflect those that would fall outside of the average range.
How to Prepare for Audit
• Retain the Services of a Professional
– If you are unsure of the interpretation of the notice received in
a correspondence audit or if you may not have all of your documentation – call a professional.
– If you are under an office or field audit it is helpful to have
someone help you prepare that is knowledgeable about what the IRS may be looking for.
– A professional can also help you determine exactly what
information to provide. Be careful not to provide more than requested to prevent additional inquiry.
How to Prepare for Audit
• Source Data
– Keep good records organized by chance they would be
examined after your taxes are filed.
– Retain any secondary information that may have been used to
prepare your return. (spreadsheets, data logs, etc.)
– Develop a record retention schedule that exceeds statute of
How to Prepare for Audit
• Do Your Homework
– Be prepared for the types of questions an auditor would
ask.
– Familiarize yourself with the relevant tax code that may
come into play within the audit area.
– If the auditor proposes a tax adjustment, request the tax
code source to research it. You have an “answer period” to review the proposed adjustments prior to agreeing to an assessment.
How to Prepare for Audit
• Maintain Professionalism
– If at all possible, comply with the wishes of the IRS as to
the time and location of the audit.
– Be polite, prompt and professional – “You catch more
flies with honey than vinegar”.
– Realize the auditor is not there to make friends. He/she
Other Audits to Consider
• Other agencies to consider:
•Department of Labor
•State Unemployment
•Sales Tax
Department of Labor Audits
• Enforcement of multiple areas
• ERISA • ACA • COBRA • FLMA • HIPAA
• An audit from DOL may open examination into
other areas.
Department of Labor Audits
• Employee Retirement Income Security Act of 1974
(ERISA) Documentation
– Annual Forms 5500 & required schedules (3 Years) – Audit reports & accountant’s opinions
– The summary plan description and amendments thereto – The summary annual reports
– Plan administration documents including trust agreements – Copy of the fidelity bond policy
– Copy of the fiduciary liability policy
– IRS qualification letters (initial & most recent)
– List of all plan trustees, administrator & employees – Sample participant benefit statement
Department of Labor Audits
• Affordable Care Act (ACA) Audits
– Review of the documents, procedures and processes
related to benefits.
– Employers should maintain a binder or electronic file
that provides easy access to written records of all ACA compliance steps and procedures made.
Department of Labor Audits
• Affordable Care Act (ACA) Audits
Documents Requested Under Grandfathered Plans
– Sample written notice sent regarding dependent care coverage to age 26 – Copy of notices regarding coverage denial & list of those participants – Plan limits for each plan year after September 23, 2010
– Notices sent advising lifetime limit on dollar value of benefits no longer
applies and individuals may once again be eligible for coverage
– Documents showing annual limits for each plan year on or after
Department of Labor Audits
• Affordable Care Act (ACA) Audits
Documents Requested NOT Grandfathered
– Choice of provider notice regarding pediatrics or OBGYN – Documents related to emergency services
– Plan’s review procedure
– Notices of adverse benefit determinations
Department of Labor Audits
• Affordable Care Act (ACA) Audits
Other areas assessed for noncompliance:
– Number of qualifying events for the time frame under examination – Methods used to notify qualified beneficiaries of COBRA rights
– Notifications to plan administrator that qualifying events have occurred – The qualified beneficiaries coverage election to continue health coverage – The premium paid by qualified beneficiaries for COBRA coverage
State Unemployment Audits
• In 2010 the Virginia Employment Commission
Audited 1% of all employers.
• The Joint Legislative Audit & Review Commission
presented a report to the Governor & General
Assembly of Virginia.
State Unemployment Audits
• Employers who property classify workers pay higher payroll costs and may be less competitive in their
respective industries than those who misclassify.
• Worker misclassification lowers Virginia’s income tax collections, leading to foregone revenues.
• Misclassified workers are often denied a variety of legal rights and benefits.
State Unemployment Audits
• Virginia Employment Commission (VEC) is the only state entity that gathers data on misclassified workers.
• Annually roughly 1% of employers are audited on a “targeted random” basis.
• Businesses and industries suspected of misclassification are audit targets
– List of audit eligible employers is maintained – NAICS codes help to indicate employer industry
State Unemployment Audits
In an unemployment audit be prepared to:
Provide copies of all 1099’s filed
Provide detailed general ledger for examination of contractor disbursements
Provide copies of all payroll data
The VEC may not be 100% in agreement with IRS guidelines “Facts & Circumstances” testing
Worker’s Compensation Audits
Worker’s Compensation Audit – Conducted by
Insurance Company
Provide copies of all 1099’s filed
Provide detailed general ledger for examination of contractor disbursements
Provide copies of all payroll data
Provide employee names, titles, and duties performed. After audit a credit or supplemental bill will be issued
Sales Tax Audits
Virginia Department of Taxation
Documentation listing will include:
General Ledger
Invoices for audit period Sales tax computations Exemption Certificates Use tax paid
Sales Tax Audits
Virginia Department of Taxation
The auditor will review a detailed sample of one month He/she will develop a list of “exceptions”
The percentage of exception is applied over the entire audit period and the rate of exceptions is multiplied (in most cases)
It is important to review the exception list carefully for dispute (not only to credit that exception but reduce the % applied)
If you aren’t 100% confident in your sales tax
knowledge it is helpful to retain a professional for consultation.
