Jan
Welcome to AB cast integrating legal tax accounting and business solutions. I’m Jonathan Allen. This AB cast is about the process of an IRS audit
Neil
Jan, for many people. One of the most frightening things that can happen is they get a letter in the mail telling them they’re the subject of an IRS audit.
Jan
Yes. So, of the most panic phone calls that have come into my office, many are individuals that have received just such a letter.
Neil
So from the outset, what are the basic things that a person who’s about to be audited need to understand about how to comport themselves and then about the audit process itself?
Jan
I think the most important thing that an in that’s received a letter of audit notification is to recognize that they need help in getting through the process. There are too many things relating to the audit that an individual may not understand. And in that failure to understand may go and create law, larger problems. Then they actually solve by trying to be helpful or provide additional information to the internal revenue service.
Neil
I think you hit one of the upfront issues right on the head Jan, you’re talking about, they want to appear like they’re cooperating with the auditor. And so the auditor asks them for a piece of data and then they give them the data, plus 10 times more, which ultimately allows the auditor to expand the scope. So is this a case of you have right to remain silent?
Jan
Absolutely. The fact in the matter is an individual has a right not to incriminate themselves. And the most common way that that occurs is when there is information that’s given to an auditor that wasn’t necessary to the audit to begin with. It allows the internal revenue service to go back and expand the scope of an audit into additional areas or additional years that can lead to complicating factors and detrimental determinations.
Neil
And by detrimental determinations, you mean more money coming out of, of hip pocket national bank?
Jan
Absolutely. It’s generally some sort of audit or tax liability that the individual is now responsible for paying.
Neil
So Jan is the IRS auditor just responding to an internal prompt or have they already looked at the situation and developed a plan
Jan
By the time an Joe gets a audit letter or notification of audit, there’s already been something that’s been identified within a tax return that an auditor wants to go back and review. So indeed the auditor goes into an audit with a plan, with a specific idea of going back and obtaining information relating to whatever issue it is that they’ve spotted within the return
Neil
And an amount of money they want to generate as a result of the audit.
Jan
That could be a part of it, but generally it’s the issue relating to some sort of information that either looks irregular erroneous, or maybe even fraudulent
Neil
Jan, what are the steps basically to an IRS on it?
Jan
Generally, the audit begins with a notification from the taxing authority about information relating to a specific return. That’s been file. Following that letter of notification, there’ll be a request from the taxing authority for some sort of meeting that meeting can be telephonically. It could be in office. It could be in person. Of course, the in person meetings have been substantially curtailed due to COVID, but those meetings are beginning to become more prevalent at again, as the departments begin to open up, following a meeting with the IRS, there is generally an IDR and that’s an information document request, and it can be very long and very substantial and very expansive, or it could be something, uh, short and sweet as we want to take a look at a particular type of expense that you’re declaring on your return. Following the submission of the information that’s been requested by the internal revenue service, the auditor will go back and they will take a look.
Jan
They may may request additional information and then they’ll come up to a notice of determination, which says, all right, we agree with the way that the tax return was prepared. We don’t agree with the way the tax return was prepared. And we think that there may be an additional liability or there could be no change. So the steps are really the notice, the notification, the meeting, the request for information, the production of the information, the notice of determination, which then leads to the additional liability, or perhaps a no change audit decision. If there is an additional audit or if there is an additional liability, then there is the chance for appeal for that particular audit, cuz you get a, a detrimental notice of determination doesn’t mean that the end is near. It means that we are about three quarters of the way through the process, which next includes both the appeal and potentially going to court.
Neil
Jan is so me, there are several things that just don’t know about the IRS and what their responsibilities are. Does a taxpayer have to talk to the IRS?
Jan
No. If a, if an individual is uncomfortable with an IRS agent, then they can always go back and hire someone to represent them, someone such as our firm. And in that process, we go back and we file. What’s known as a power of attorney and that power of attorney allows me to go back and speak on behalf of the client. So there are a number of audits that I’ve gone back and conducted that my clients have never spoken to the IRS agent because I’m the conduit or the representative that’s going back, providing the information and discussing with the internal revenue service or the, the taxing authority, whatever their needs are in order to draw the audit to a conclusion.
Neil
So that’s got to take a huge amount of the stress, the audit doesn’t it
Jan
For some clients. It does. Yes. I think to the extent that individuals may be uncomfortable talking to the internal revenue service or the franchise tax board, it can be a great relief not to have to go back and deal directly with the agents.
Neil
And in most cases it’s also in their best interest, right?
Jan
It can indeed. I think one of the biggest errors that they commit is going back and giving too much information when the information hasn’t been asked for by the auditor. And that’s the reason it’s important when you go into an auditor or you’ve been notified that you’re going to be audited, that you are working with someone that understands the scope of the information that’s be requested and the type of information that is required to be given. So it’s that knowledge of the information and how it’s delivered and, and how it’s presented. That is really important in going back and limiting the scope of the audit. So that additional years are not opened up on necessarily.
Neil
Another thing that surprises taxpayers is that their CPA or their tax preparer or their financial planner, they have to give the IRS any information they ask for. They don’t have the protection of the attorney client privilege. Can you talk a little bit about those protections and why that matters? Especially in a audit,
Jan
Many clients have information that they want to have protected and that protection when it’s been given, when that information’s been given to a CPA or an enrolled agent is not protected as the information is when it’s given to an attorney, the attorney client privilege allows the attorney to maintain the confidentiality of information that’s given to the attorney by the client. And that information, if their SAR documents may be required to be given to the internal revenue service, but there are work papers and information that’s given to the attorney that is not discoverable in the event of say, for example, a lawsuit. So the concept of the attorney-client privilege is a really critically important one for individuals, particularly that are undergoing a stressful audit in order to protect the information and their privacy as well.
Neil
Another, the common myths we hear is that you don’t have to worry about it, because whatever the determination is, you can settle your tax debt with the IRS for pennies on the dollar.
Jan
I think certainly in some cases that’s true. Um, if you’re bankrupt, if you don’t have a job and you have no assets, that may be one potential, but for individuals that feel that they can go back and settle a liability with the franchise tax board or with the internal revenue service for pennies on the dollars. And they believe the ads that they see on TV that is generally not the case. I have not had occasion where clients go back and settle for pennies on the dollars when they still held substantial assets.
Neil
Jan, what’s the Genesis? What is it that that creates or generates most audits?
Jan
In my experience, the underlying fundamental cause of most audits, whether they’re individual or corporate or business audit is a failure of the accounting. And when I say accounting, it may or may not be a financial statement. It could be the aggregation of information or the way that it’s presented, but it’s the underlying accounting that generally causes the irregularity that spotted by the IRS that then goes back and triggers an audit.
Neil
So one example of that Jan might be the bell curve.
Jan
Well, the bell curve certainly comes into a statistical analysis that is generated by the internal revenue service. When tax returns are filed after the 18th deadline, the a number of tax returns will go through a process and that’ll be a standardization of footed is the expectation is for different types of expenses or deductions will be, if you fall outside that bell curve or outside of that statistical analysis, then there is a good chance that you’ll be called for an audit because you aren’t fitting within the standardized realm that the IRS would expect your deductions to actually be.
Neil
So Jan, why would any taxpayer need a tax attorney for an IRS audit?
Jan
I think the answer’s quite simple in the event of an adverse audit, an adverse audit determination. One of the remedies that a taxpayer has is to go to tax court. And in order to go to tax court, you have to be an attorney. So when you’re preparing for an audit or you’re defending an audit or you’re defending a, a taxpayer, it’s critically important that you look at it from the legal perspective and how the information and the representation will be from a legal perspective, which if you, you’re not an attorney, you won’t understand because you aren’t an attorney. So it’s the attorney and the legal perspective, particularly as you look towards appeal, that becomes critically important. Otherwise you have to transition from a CPA or an enrolled agent into an attorney that will have the ability to finalize the appeal. If you’re going to tax court
Neil
Jan, in a lot of IRS audit situations that statute of limitations comes into play and the IRS may ask to extend it, what is the statute of limitations and what should a taxpayer do if the IRS asks to extend the statute,
Jan
The response for an extension request from an IRS agent for the extension of the statute of law limitations is going to be dependent on the audit itself. There are times that an auditor is running up against a deadline that they simply need more time to finalize the audit. And in some instances it may be beneficial to go back and allow that extension to occur in other, it may be more effective to insist that the auditor finished the audit within the time limit, that they’ve been allowed by the statute of limitations, um, to see what the determination holds. So for me, the extension of the statute of limitations is going to be dependent on the type of audit and the timing request by the auditor themselves.
Neil
Jan, can you, as a tax attorney have an impact on the outcome of an audit in between when the notice of determination is given and a case may have to go to tax court.
Jan
Absolutely. Throughout the process, there is always the opportunity to go back can deal with the revenue agents manager prior to filing and going to tax court, or even after the filing has been made to go to tax court, to discuss with opposing counsel where it is that the case may or may not go. There’s always the opportunity to go back and negotiate with the attorney and opposing counsel come to a settlement prior to having to go to tax court.
Neil
So another advantage Jan is that if they have a tax attorney and they’re in the process of approaching the appeal, a CPA is not going to be able to represent them or provide advice as they prepare their case for appeal and ultimately for tax court. Whereas how would the IRS look at them if they had an experienced tax attorney by their side?
Jan
I think that the CPA or enroll agent can go back and give advice to a client based on the underlying case, but when it comes to appeals and you start negotiating with opposing counsel and by opposing counsel, I mean attorneys, uh, for the internal revenue service, I think it’s important to a legal background to understand the legal processes and procedures that you’ll be required to go, go through and, and how it is that the information will be presented and what type of information may be presented because you’re dealing attorney to attorney as opposed to attorney to CPA. So for me, it’s important that you understand the legal process that you may be going through because you’re dealing with someone that already understands that process.
Neil
Another thing many taxpayers don’t understand you is the relationship the tax agencies have. So you finish up your IRS audit and the next knock on the door is California
Jan
Or vice versa. Um, essentially that’s quite true. The taxing authorities have, uh, reciprocal rights. So when a determination is made in California and the IRS is notified and vice versa. So when clients think that they’ve gotten through one audit, they’re often quite surprised to find that there’ll be a notice of determination from another taxing authority, for example, the franchise tax board, that piggybacks on the determination made by the IRS. So you may complete one audit, but you see certainly aren’t necessarily.
Neil
So you’re not only thinking about the audit that’s in front of you, Jan, you’re thinking about what’s going to happen outside of it.
Jan
Absolutely. When you go through an audit, you’re always looking at the impact that the determination this audit will have based on another taxing authority that could come back and piggyback on the determination. You’re not running one audit, you’re really running two audits and preparing for the eventuality of the second one as well.
Neil
So Jan, in summary, one of the most important aspects to know about an IRS audit up front is you need to be careful what information you’re providing them.
Jan
I think the control of the information is critically important as is how it is that the information is provided to the auditor. I’ve had auditors go back and requests copies, for example of QuickBooks files, the electronic files, which I have yet to provide to any IRS agent because those files can be manipulated. So it’s quickly important that when you are requested through an IDR to provide information, that the information is provided in a manner that is safe, succinct, and gives the auditors what they need without giving them too much.
Neil
So you have to know where they’re going and you have to know what they’re trying to accomplish. And then you’re developing strategies to limit both
Jan
Precisely. It is in the providing the underlying data and understanding that the issues that may arise after reviewing that data, that the, that the IRS agent may want to pursue based on that underlying data that could expand the scope of the audit, not only in terms of the information that provided, but in the number of years that the auditor may be looking at as well.
Neil
So if someone’s facing an IRS audit, Jan, there’s a lot that we can do to make the process easier and to save them a substantial amount of money, potentially
Jan
That would be the goal. We have the ability to interface and react with the internal revenue service so that the client is not required to do that. We can organize, substantiate and provide the information that’s required upon the request of an IRS auditor, as well as providing the guidance and the strategies to minimize the potential liabilities that may arise because of certain strategies that are being pursued by the internal revenue service auditor themselves,
Neil
And guard the door against the next audit coming in the mail.
Jan
So my job is to understand what the issues that the IRS auditor is pursuing, how to provide them the information to show them that the issue that they think they have is nonexistent. And to keep them from expanding the scope of an audit beyond the initial notification to the taxpayer.
Neil
So as your client in an IRS audit, Jan, you’re going to defend me. You’re going to aggressively protect my interest. You’re going to try to keep them out of my hip pocket. And you’re going to try to protect me from anybody else who might want to follow them through the door
Jan
Touché
Neil
Thanks Jan
Jan
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