Audits- new thread....

[BOB W]

The other thread was getting to long.................

Sometimes I bring my client with me. Most of you will shutter at that statement but I have my reasons. One of those reasons is, they have poor documentation. I know that there is very little I can do to salvage the audit by myself. ( No documents- No deduction).

I must rely on VERBAL and (OTHER) WRITTEN testimony of the client to the auditor. I have used this technique sucessfully on several occasions.

During the pre-audit interview is when this approach is determined. The client fully understand what is a stake and I proceed to futher educate him/her on the do's and don'ts during the audit AND I have a lenghty discussion about CREDIBILITY.

You will be suprised at what an auditor will accept when presented in the right atmosphere.

What do you do when a client has very poor records?

[S T]

More Audit Info

I was going to post under the old post, but never got around to it.

So now, after an interesting audit in 2005 which is still not concluded after receiving the notice in 11/04, I just have made a new decision for my practice.

I will not accept or represent any client in an audit, that I did not complete the return for the tax year being audited.

As a favor, I assisted a collegue that had not obtained their EA status, with a client that received an audit notice. We requested that the client provide us with a copy of their return (2002 being audited) and all of the backup information for income and expenses to prepare for the audit. The information obviously was not detailed enough nor was the client forthcoming with the information. Any way long story short, at this point (audit still ongoing) by doing Bank Deposit Analysis and trying to match up expense receipts, the income reported was under reported by about $25,000 and the expenses were overstated by about $20,000, that does not include the overstatement on the vehicle expenses.

When trying to compare to the prepared and filed return, it was obvious the prior tax preparer did not ask pertinent questions, and did not ask for substantition on various expenses. It is so hard to come in behind someone else's work not taking into consideration that the client probably did not furnish all of the proper information (because the record keeping is less than desirable) nor did the prior preparer request or ask enough questions.

So now, IRS is not only auditing 2002, but has also opened up 2003 for audit and has issued the summons to all of the client's financial institutions for all records for 2002 and 2003. What a nightmare! And 2004 has not been filed yet!

Not a nice place to be in!

Sandy

[Armando Beaujolais]

It looks to me like placing blame on the preparer or poor records is missing the boat. At face value the situtation you're describing sounds like taxpayer fraud. Unless the income level is so high that $45,000 is immaterial, there sure seems to be pattern and intent. Not an accident or the result of shoddy bookkeeping. Even a shoddy bookkeeper will know when their income for the year is understated by $45,000.

I'll bet you a cup of coffee that the 2003 bank deposit analysis turns up similar discrepancies going in the same direction.

[Gretel]

Blame the preparer

If a client comes to me with all expenses and income written down I keep a copy and take the numbers. At least as long as it makes sense and I trust my client.

Maybe that's wrong and I should ask for more proof.

[S T]

Audit and Documentation

It looks to me like placing blame on the preparer or poor records is missing the boat. At face value the situtation you're describing sounds like taxpayer fraud. Unless the income level is so high that $45,000 is immaterial, there sure seems to be pattern and intent. Not an accident or the result of shoddy bookkeeping. Even a shoddy bookkeeper will know when their income for the year is understated by $45,000.

I'll bet you a cup of coffee that the 2003 bank deposit analysis turns up similar discrepancies going in the same direction.

Armando, I so respect your advice and your assistance, but sometimes I notice that you are very quick to jump to conclusions.
No one was placing blame or trying to justify the taxpayer's under reporting! Just an observation as we tried to gather the documentation for the audit. The tax return in 2002 had a lot of errors, duplicate identical amounts under different expense categories, very high mileage deduction and a change of autos that was not reported, 1099's that were not issued on contract labor (that was an immediate disallowance), incorrect 1099R reporting, repair expenses for build outs that should have been leasehold improvements, equipment written off as supplies, that should have been depreciated, etc. As far as income under reporting on the Schedule C who really knows at this point, the taxpayer claims there were a lot of loans and monies distributed from a trust which allowed for his added expenses for his business. The tracking has been very difficult and the backup documentation not forthcoming.

So the auditor has a summons to the financial institutions to see what makes up the deposits. I don't know if this is to prove fraud or to try to assist the taxpayer in reducing taxable business income. The auditor stated that there was no choice but to summons the records due to the large discrepancy.

Based on what taxpayer provided, which was little to no record keeping and what he provided the 2002 tax preparer, there should have been a lot of questions asked and answered to prepare the tax return, then some of the issues that arose on the 2002 audit would have been avoided, particularly the overstatement of expense deductions.

The 2003 return was prepared by someone else, and was much more complete. So far the under reporting of income for year 2003 is not as significant and not much in the way of disallowance on the expenses. However, some of the errors on the 2002 return could reflect on the 2003 return.

The point I was trying to make for myself and my practice, was that I intend to try to avoid handling audit issues for a taxpayer on a return that I did not complete. It is very difficult to to represent a client when the issues being addressed can not be substantiated and there are errors on the return that you can readily see before looking at any backup documentation.

Gabriele, yes keep copies of what the taxpayer provides you, but on small businesses that I do not handle the bookkeeping on, I also request copies of the bank statements to try to make sure that the income being reported is correct. Of course this does not always work, if the business takes in a large amount of cash and it is not deposited. As someone else stated on another board, also ask for receipts for those large depreciable items and keep those in your file in case they are requested later. Auto Repair records are also a good source of verification for the odometer and mileage readings.

Sandy

[BOB W]

Audits- Preparer Caused

In my many years in this business the most likely reason for an audit is the preparer. I'm not saying the client had nothing to do with it but I am saying the preparer allowed a return to be processed with info that is out of place to the trained eye.

In more than most cases, the preparer has caused the audit due to faulty practices while the return is being processed during tax season. We all get rushed in the mayhem of the season and would like to have a reasonable turnaround time to please our clients, but bypassing routine good sense can be a problem for our clients and us.

Every audit I've been on that did not have a "no change" was preparer caused. Obvious "stick it in your face" line entry(ies) screaming "here I am, I dare you to call me on this" type entries. And that is just the ones the IRS catches.

How many tax returns have you reviewed when a new client comes to you and you shake your head in complete amazement why this return never got audited or you say to yourself " what was this preparer thinking".

When it comes to audits I mostly blame the preparer for not being more aware of the total picture. Is the preparer familar with that type of business? Does the preparer "tune in" to the client and get a general feeling as to character of this client? Knowing what you are up against is part of the tax return process. If the client can't be converted then he has to be sent on his way.

When the tax return looks right, it will probably not be audited, but if it is- then it is on the client to produce documentation for the numbers he provided.

[Armando Beaujolais]

Armando, I so respect your advice and your assistance, but sometimes I notice that you are very quick to jump to conclusions.

I jumped to the conclusion based on this information:

" the income reported was under reported by about $25,000 and the expenses were overstated by about $20,000, that does not include the overstatement on the vehicle expenses.

"When trying to compare to the prepared and filed return, it was obvious the prior tax preparer did not ask pertinent questions, and did not ask for substantition on various expenses."

Maybe my conclusion was wrong, but I dont' think it was unreasonable based on the information presented. I saw no question about the client's role other than as almost a passive observer, an observer who happens to be a bad bookkeeper. I'm still betting the client had more than a passive role in the discrepancy, that you'll see similar "coincidental" understatements of income, and that cup of coffee is still on the table.

Although your subsequent comments about the return preparation sounded like a train wreck. I'd just suggest that the jury still be out on whether the preparer threw all these things at the fan or if the client is just a bit more aware of the situation than he's letting on. Some clients have really good timing when it comes to putting that dumb innocent look on their faces.

I agree that practitioners should decide whether they'll take an audit for a return they did not prepare and set a policy accordingly. Look at the possible reasons why the person who prepared the return does not do the audit, and you'll see why these situations usually become a big headache. It's our job to make our clients' problems our problems, but if you take an audit for another practitioner, you've just made another practitioner's problem your problem.

[Armando Beaujolais]

In my many years in this business the most likely reason for an audit is the preparer.

This must be a regional thing. You mentioned before that good-natured cooperation is all you need to secure a positive outcome from auditors and they're not out to roll the taxpayer. Now you're saying it's the return prep, not the substance of what is reported, that causes audits.

That's 100% different from what I see. I see audits because of significant Schedule C losses year after year, Schedule E losses with no rental income, Earned Income Credit, unreported 1099-MISC or Bartering, and crooked taxpayers. There's no way you can hide those items on a tax return.

That's interesting.

What's everybody else's experience with what triggers audits?

[BOB W]

Audits

What I was referring to in past posts was how other poster say "IRS takes advantage of T/P without represation". And I agree. But I found that being too aggressive can cause more problems and that establishing a working relationship can accomplish more for your client.

There is nothing I or anyone else can do for a client who didn't report their full income or report E losses with no income. E losses with no income is allowed if the rental was available for rent but no takers. If a client comes in every year with the same rental situation, I as preparer, will not report the "rental unit" as Schedule E rental property. If I did it would be "preparer error" that would cause an audit, whether an audit occured or not. Fact and circumstances are always an issue with rental property.

As far a EIC, those audits are random. Schedule C losses are also a facts and circumstances issues, like 179 deduction causing the loss. Again, the preparer need to place a value on operating a business that shows losses for several years. The IRS has hobby loss rules covering. I always ask myself, would it be prudent for this client to continue operating this business? If no, I tell the client he has a hobby not a business and I limit the expenses to the extent of the income. Common sense will dictate what is real and what is not. I exersize that option when presented with unusual situations.

Yes, I am pre-auditing all of my clients but just for feasability only.That is my job as a preparer, to present my clients' tax return in an acceptable manner.

[Armando Beaujolais]

If a client comes to me with all expenses and income written down I keep a copy and take the numbers. At least as long as it makes sense and I trust my client.

Maybe that's wrong and I should ask for more proof.

I don't think you have any extra responsibility to do go beyond that unless you have reason to believe the numbers might not be right. For example, if a client comes in to me with an income statement showing a $50,000 business loss, I have no reason to be suspicious. But I did fire a client recently because there were big losses in consecutive years. The client had next to nothing in investment income, indicating no big pile of dough stashed, so I asked a couple of questions. I considered the answers evasive, or at least incomplete, so I fired him. I had no reason to question him at first, but the pattern emerged.