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

IRS Audit: What to Watch Out For; The Self-Employed Are in the Bullseye

According to latest reports, the Internal Revenue Service, or IRS, is increasing the total number of income tax returns selected for audit. But it isn't as bad as it sounds, because the audit rate has actually gone down. On an average, the IRS audits around 1 percent Americans every year. That minimizes your chances for receiving an audit notice from the IRS, but doesn't completely rule it out.

On your part, you need to ensure that your tax return doesn't attract unwarranted importance. This becomes more important if you've made some manipulations in your returns. Your objective should be to show your returns to be as normal as possible so that they mix in with the innumerable other returns. Still, many Americans do make the mistake of showing huge deductions or losses in their returns, which makes IRS audits inevitable.

If you, too, have filed an income tax return that gets selected for IRS audit, then there are a few things that you need to remember. IRS audits are specifically targeted on those returns where the expected payoff amount is greatest. The self-employed are usually targeted the most; if you happen to be one, be ready to backup your business expenses. Even while filing the returns, if you've claimed a deduction that's higher than average, it's better to attach supporting documents along with the return. This won't only prove to the IRS that your deduction is genuine, it will also discourage further IRS audits.

Whatever the primary focus of the audit might be, during the audit the IRS auditor gives maximum importance to the entertainment, meal, and auto deduction records. In order to ensure that your IRS audit goes well, you can follow these tips:

- During an audit, you need to show documents to prove any of your credit, deduction, or exemption claims that the IRS is questioning.

- You are well within your rights to ask for more time for the audit, that is, postpone the date of the audit in order to get your papers in order.

- Don't provide any more information than what is asked for.

- Try not to have the audit at your home or office. Go to the IRS office with all the documents, or you can even have your tax professional represent you.

- It's always better to consult a tax professional as soon as you're notified about the audit. Even while the audit is in progress, you can always ask for a break to consult your tax professional. You can claim deduction for the fee you pay to a tax professional for audit representation.

- If during the audit, you feel that the auditor is not treating you properly, you've every right to ask for the auditor's manager.

- If you don't agree with the outcome of the audit, you can appeal.

- Chances are, you'll have to end up paying some amount, so be prepared.

It is in the best of your interest to consult a tax professional for the audit. And even if you feel that you can handle the audit on your own, do inform your tax professional to get a briefing about the audit, as well as to have the required documents in order.

Tax Tips for IRS Audits: http://www.tax-definition.org/irs-audit/

About The Author
Howard Schwartz is a partner in several business strategy groups, including HJ Ventures International, Inc. Howard has worked with hundreds of entrepreneurs worldwide with a focus on writing Business Plans for companies interested in raising capital from Venture Funds and Angel Investors. Howard?s business plans have secured several million dollars in funding. For more information: http://www.tax-definition.org.

Self-Employed Woes

Cheating on taxes is common among self-employed people, so you have a high chance of being audited, even if you pay taxes on time and run an honest living. The Small Business/Self-employed Division of the IRS employs the most staff.

An audit notice will require information regarding:


If you have workers who have been classified as independent contractors when they are actually employees
Payroll tax deposits are paid properly
If you declared all cash transactions
If you have large claims for business entertainment expenses
If you have reported car expenses for travel expenses that weren't business-related
If your lifestyle takes more than the sum of self-employment income you declared
If you write off living expenses as business or home office expenses
Declared all the business' sales and receipts


As you can tell, it is vital to keep good records. When and if an audit happens, you'll have the needed documentation the IRS requests.

You can lower your risk of an audit through these tips:


Avoid math mistakes. The IRS may want to investigate you if you have multiple math mistakes on your tax return.
Do not fail to sign your tax return because the IRS will think you have forgotten other things.
Donations shouldn't be overestimated. Use the market value for any donations and if you have donated a big value item, obtain a letter from an appraiser for your files.
Don't underreport your income because the IRS can examine your accounts.
Cash transactions must not be hidden. Cash transactions above $10,000 should be reported on IRS Form 8300 within the fifteenth day after the date of the transaction.
Don't overestimate home office deductions. If the room your home office is in is utilized solely for that purpose, you can deduct the expense. Keep good records on the fraction of the utilities and insurance required to keep that room functioning as a home office.
Payroll tax payments must not be failed. The IRS considers this as unlawfully borrowing funds from the Government if these taxes are not settled.
Live within your means.


The IRS might audit you if:


increase in income
a partnership
change in lifestyle
tax shelter investments, or a trust
hiring relatives
employing employees vs. hiring independent contractors


You will be able to convince the IRS that you operate an honest living if you settle your taxes promptly and keep accurate records. The IRS may audit you for three years after you file a return, so keep your records for at least three years.

Darrin T. Mish is a Nationally recognized Attorney whose practice focuses on representing clients across the United States with IRS Problems. He is AV rated by Martindale-Hubbel and is a member of the American Society of IRS Problem Solvers and the Tax Freedom Institute. He has been honored by a listing in Martindale-Hubbel's Bar Register of Preeminent Lawyers. His passion is providing IRS help to taxpayers with both individual and payroll tax problems. He teaches attorneys, CPAs and Enrolled Agents in the finer aspects of IRS representation all around the United States. He can be reached at his website at http://www.getIRShelp.com