Are Self-Employed Small Business Owners Audited More Often Than Other Individuals?

Yes, taxpayers who file a Schedule C, "Profit or Loss from Business," are historically twice as likely to be selected for audit as other individual tax filers. In its September 2007 report, Reducing the Federal Tax Gap: A Report on Improving Voluntary Tax Compliance, the Internal Revenue Service (IRS) estimated a $345 billion shortage for tax year 2001.

Yes, $345 billion in tax revenues, the "tax gap," that were either not reported, reported improperly, or not paid when due. IRS determined that individuals are responsible for 57% of that tax shortage, and Schedule C filers are the most likely to underreport their income. Based on these findings, during 2008, IRS will increase efforts in the audits of individual returns for tax years 2005 and 2006.

You're a business owner, so you know it's important to keep good accounting records. Your system doesn't need to be complicated, but it must be complete, consistent, accurate, and updated in a timely manner.

What tasks should your accounting system do for you? Your needs will differ depending on the size of your business and the industry in which you work, but here are some basic requirements:

*Record all receipts and payments

*Track customer billings and payments

*Monitor vendor billing and payments

*Prepare payroll checks, calculate employee and employer tax liabilities

*Manage inventory purchases and sales

*Generate periodic profit and loss statements and balance sheets

*Document your transactions through journals, registers, customer and vendor invoices, bank statements, etc.

Your accounting system must also provide information to comply with federal, state and local reporting obligations which are complex and ever changing. You may be overwhelmed or confused by the paperwork, but it's not okay to ignore it or hope it will go away.

It's also time consuming to keep track of everything. If you need help, hire a bookkeeper or a bookkeeping service, a virtual assistant, or engage a Certified Public Accounting firm to assist you. You don't have to do it all yourself, but you should understand what's necessary. It's your business, so supervise the process and understand your financial information. Get help from a professional to make sure you're doing things right, and you'll be better prepared if IRS comes to visit.

What items in the tax returns will IRS target? IRS estimates that noncompliance is greatest when income or expense items are not confirmed by a third party like a bank, mortgage company or a customer. For example, the taxpayer received income in cash and did not report it, deducted payments for personal expenses, or paid workers and didn't complete Form 1099 reporting. To persuade taxpayers to more accurately report their income, IRS will improve their monitoring processes, expand taxpayer reporting requirements, and increase penalties for noncompliance.

What do you do if IRS notifies you that you have been selected for audit? Take a deep breath, and then contact your tax professional and ask for help. IRS is now more selective of information to maximize audit efforts so they may request only specific data which makes the experience less stressful. The best advice is to hire a CPA and utilize their knowledge and expertise to guide you through the process.

If your accounting records are complete and accurate, your transactions are properly documented, and you have professional assistance, you should have nothing to worry about.

Hope Player started her own CPA firm in Roanoke, Virginia, in 1987. She promotes small business by helping start-up companies, and speaking at national, state, and local meetings on various topics relating to entrepreneurship. Hope is currently the Managing Member of The Arcadian Group, LLC, a CPA firm in New Jersey which provides accounting, consulting, and tax services to businesses, individuals, and nonprofit organizations. http://www.thearcadiangroupcpa.com