Other than being arrested, one of the most intimidating interactions you can have with the government is a federal or state tax audit. Even when you've done nothing wrong, you still feel like you're considered guilty until proven innocent. You're worried that you might have made some small, innocent mistake or omission on your filing that could lead to huge penalties, that you've lost some crucial bit of paperwork you'll need as supporting evidence, or that your tax preparer or accountant may have played a bit too "fast and loose" with the rules and left you owing money to the government you may not have. Meanwhile, you're squaring off against government tax experts who do this every day and use all kinds of technical language and terms you don't really understand. The whole thing can be nerve-wracking. Hiring a tax attorney to represent you throughout the audit process can be a lifesaver. This is especially true if you have done something wrong and need to discuss your options about how to deal with it. Whereas a tax preparer, accountant, or "tax professional" could give evidence against you to the IRS (or a judge) about what you've told them, attorney-client communications are legally privileged. Only a tax attorney can hear your complete side of the story in full confidence and help you protect your rights and options before, during, and after an audit.

So what exactly is an audit? An audit (or "examination") is the process whereby the IRS or state tax agency reviews your financial and other records and compares them to information you gave on your tax return. The purpose of is to confirm whether the information reported on a tax return is complete and accurate. This is because when it comes to taxes, most of the time we're all on the honor system—apart from certain reporting mechanisms, such as when employers and contractors report payments made or received.

Usually an audit starts when government computers discover some discrepancy, notice an unusual pattern, or determine that a business's expenses are outside of statistical norms, leading the IRS or state tax authority to flag a return for audit. IRS computers use a proprietary algorithm known as the Discriminant Inventory Function System (DIF) score to determine whom to audit. Factors which make you more likely to be audited by the IRS include reporting large amounts of income on a Schedule C ("Profit or Loss from Business (Sole Proprietorship)"), substantial errors or omissions on your tax return, and filing a return with unusually high deductions. Each state also uses algorithms to decide who to audit, though their trigger factors are often similar to those used by the IRS. In fact, being audited by the IRS may also trigger a subsequent state tax audit, since the federal government will share their auditor's report with state tax agencies. If the IRS finds a problem with your federal tax filings (say, underreported income), it's a good bet the same problem will also reappear on your state tax filings, too. Conversely, being audited by a state may also trigger a subsequent IRS audit, for the same reason.

Normally you will receive a letter from the IRS or a letter from the state, explaining that you are being audited and giving you further information about how to proceed, and by what deadline. There three main types of IRS audits: correspondence audits, office audits, and field audits. Correspondence audits (sometimes also called a "desk audit") are the most common. The taxpayer will receive a notice requesting documentation to prove/substantiate some deduction or explain why an item of income was omitted from a tax return. Everything is handled through the mail, perhaps with a telephone call. The office audit is the traditional format most people think of when they hear the word "audit": you go to a government office, answer a lot of questions about your financial circumstances, and are required to provide documents and evidence relating to income or expenses claimed on a return. Office audits usually focus on a few key areas, such as business deductions, but the agent conducting the interview can expand the scope of their review to other tax years or areas if they feel it is necessary. The final type of audit is the field audit which, as the name implies, involves an IRS agent observing business operations and inspecting records at your place of business. (Field audits are conducted only for business filings.) These can be the most unnerving because of the potential to disturb your clients/customers. After a field visit is concluded, it is normally followed by the same procedures as an office audit, though with additional questions relating to anything the agent observed in the field.


Finally, there is one more type of IRS audit, which is a kind of lottery you don't want to win: the random statistical audit. Every year a few poor souls are randomly selected for a full office audit, reviewing every detail of their personal tax return, so that data can be gathered for the IRS's statistical sampling surveys. Even though nothing about your filing triggered the audit (you were chosen at random), any issues the IRS happens to find are fair game.

When the audit process concludes, the IRS or state tax agency will issue its findings, which you can choose to accept or dispute. An audit doesn't necessarily result in you owing back taxes, penalties, and interest. In fact, many audits conclude with the taxpayer owing no additional money whatsoever; more rarely, you may even be awarded a refund. However, if the government decides that you do owe money, you are allowed to file an appeal to dispute their determination.

In conclusion, routine audits are usually just a review of paperwork to determine if the income, expenses, and/or deductions you've claimed are accurate, appropriate, and properly documented. An audit is not a criminal investigation or a trial. (However, an audit could be a prelude to a criminal investigation if the IRS believes it has uncovered evidence of tax evasion or some other crime.) What makes the audit process difficult for most people is that it requires gathering and presenting the appropriate documentation. Many people misplace or throw away things like receipts that they later need as evidence during an audit, and few small-business owners bother to read IRS publications on how to maintain appropriate business records. While the IRS doesn't expect you to maintain intricately detailed records of every cent you earn and spend, they will ask you to find a way to re-create those records and provide third-party documentation like credit card and bank statements in substantiation of any claims. Just as challenging for most people is that office audits and field audits involve speaking with auditors. You're not just sending in bank records to be reviewed by a computer; you have to actually present those records, along with a compelling narrative, in a way that will convince the auditor that the information presented is complete and accurate. Once you are under audit, any suspicious line item from your return, or a general pattern, can prompt the auditor to expand their review to other matters and tax years. You don't want that.

If you are selected for audit, there is no requirement that you hire an attorney to assist you with the audit process, but it is strongly advisable to do so given the potential traps for the unwary and unprepared. If you are being audited by federal and/or state tax authorities, an experienced tax attorney from Gold Path Tax can help you navigate the entire process, from preparation to audit to appeal (if necessary). While this may be your first audit, we have participated in many dozens of audits, and can anticipate what questions will be asked. We can review these questions with you beforehand so you're prepared to answer them accurately if you decide to appear at the audit in person; or we can gather your answers and appear on your behalf at the audit so that you never even have to show up. (We can represent you in person or over the phone, depending on the nature and complexity of the matter.) Moreover, we have a have a deep knowledge of the tax code and regulations, and can usually anticipate what materials/information the government is looking for and how to present that material/information in a way that will complete their inquiry swiftly. If you've been notified of an audit, don't delay. Contact us for a free initial consultation with a tax attorney. Our Managing Attorney, Goldie Greenstein, can be reached by phone at 248-246-1154 or by e-mail at goldie@goldpathtax.com.

© 2019 by Gold Path Group LLC. All rights reserved.

Disclaimer: This website is for informational purposes only, and is not intended to provide legal advice. If you have a tax issue, you should seek counsel from a qualified professional.

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