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Ever heard the saying, “It’s better to prepare and prevent than repair and repent?” That’s definitely applicable when it comes to audits on your business’s taxes. Tax audits can be expensive and inconvenient, or you can streamline the process with the right preparation. Let’s take a look at some strategies and principles to guide you in preparing for business tax audits.
Try to Determine What Triggered the Audit
If your business is facing an audit, it’s worth considering why. While some audits are triggered randomly, some businesses are at a higher risk for audits due to certain factors. Specifically, even smaller companies can be faced with audits when they have dramatic shifts in income or expenses, excessively high deductions taken for areas like entertainment and meals, and similar red flags, especially when there does not seem to be proper documentation.
If your audit was triggered by an unpaid state sales and use tax, for instance, it’s valuable to find that out before the audit occurs so that you can make sure to take care of that and demonstrate compliance as necessary.
Ask yourself common questions to determine where your business falls in the risk or cause of audits. Are you claiming income losses year after year? The IRS may be suspicious. Do you have a lot of independent contractors? The state may want to audit that to ensure nothing has been misclassified. Did you round a lot of your numbers? A lack of attention to detail can be enough to bring the IRS scrutiny of an audit. You may not be able to minutely determine what triggered the audit, but going through this line of thinking will provide good preparation for what the auditor will come in to do.
Remember that Organization is Key
Once you’ve tried to determine what triggered the audit, you need to get organized. Preparing for a business tax audit really means organizing your company’s financial files. The IRS maintains the right to look at any records that were or should have been used to prepare the original tax return. This includes:
- Business bank statements
- Receipts, checks, and invoices
- Any records of charges, whether electronic or physical
Even if you don’t have formalized records, whatever you have will need to be considered. Depending on the nature of your business, you may have only a small amount of bookkeeping records to get together, or you may have a variety of income streams. Either way, you’ll want to be thorough in your efforts to compile all relevant financial information for your business’s taxes.
It’s not enough just to get all the required information together; you also want it to be organized. While most of our records are now online, you can picture how different it would be to dump a pile of receipts in front of an auditor as opposed to giving them chronologically separated folders. The same distinction applies to online information. The messier your records are, the more likely it is that the IRS will find any and everything that could potentially be flagged. Organization, on the other hand, establishes credibility and may bring your business more leniency from an auditor.
Do Your Homework
Once you have all your files compiled and organized, it’s time to dig into the details. A pre-audit examination of financial affairs for your business with a lens focused on taxes will help you find potential areas where you need to do more explanation before handing off the details to your auditor. While you can do this on your own, hiring professional help for tax services can be invaluable in letting you discover specifics you may have overlooked by yourself.
It can help to consider the perspective of the auditor and pre-empt concerns they may have by demonstrating proof or justification for certain financial decisions. You may need to research tax law in order to show your right to take certain deductions or benefits. Of course, there are ways to escape high taxes legally, but you’ll need to prove that that’s what you were able to do. Over-claimed deductions and benefits are a huge area of focus in business tax audits, so doing your due diligence on what your business really qualifies for is a smart way to prepare for your business tax audit.
Take One Step at a Time
In your preparation for your business tax audit, it can be easy to get overwhelmed with compiling every file and trying to pre-empt every consideration the auditor might have. Remember, though, that audits are methodical, step-by-step processes, and your preparation can be too.