By Stephen J. Dunn
Your chances of a tax audit are up. The IRS increased the ranks of Revenue Agents by 3% in 2009 and by 7% in 2010.
If the IRS notifies you that you tax return has been selected for audit, don’t panic. The IRS audited 1,581,394 individual income tax returns in 2010—342,762 of them in the field and 1,238,632 of them by correspondence. The same year the IRS audited 29,803 Forms 1120, U.S. Corporate Income Tax Return—28,601 of them in the field and 1,202 of them by correspondence.
You should, however, retain competent counsel—an attorney experienced in representing taxpayers before the IRS. Except in the simplest of matters, you should not attempt to represent yourself before the IRS.
A field audit begins with a Revenue Agent sending the taxpayer a letter specifying the tax return(s) selected for audit, the day and time the audit is to begin, and the records the Revenue Agent would like to examine. Revenue Agents do not make initial contact with taxpayers by phone. IRS employees do not conduct agency business with non-IRS employees by email.
You should contact counsel immediately upon receiving notice that your tax return has been selected for audit. Counsel will determine whether the case involves potential allegations of fraud. If it does, the taxpayer should not submit to an interview by the IRS. Counsel will also consider high-level issues that are likely to arise in the audit.
Counsel will fax a Form 2848, Power of Attorney and Declaration of Representative, to the Revenue Agent and follow-up with a phone call. If necessary the start of the audit can be rescheduled.
The taxpayer’s accountant plays an important role in an audit. However, there is no accountant-client privilege in Federal court. If it is important that communications with an accountant be privileged, I will directly retain an accountant not previously used by the taxpayer.
The Revenue Agent will seek to interview the taxpayer at the start of the audit. Taxpayer’s counsel should be present for this interview.
The taxpayer and his employees should treat the Revenue Agent cordially, but avoid substantive discussions with the Revenue Agent. Such discussions should be left to the taxpayer’s authorized representative.
Taxpayers tend to be chatty around IRS agents, thinking they can talk themselves out of real or imagined tax problems. Such conduct often has the opposite effect. Upon discovering evidence of fraud, a Revenue Agent will refer the case to the IRS Criminal Investigation Division (“CID”). CID agents seek to elicit incriminating statements, and build prosecutable fraud cases.
At the end of the audit, the Revenue Agent will meet with the taxpayer to review the proposed adjustments. Taxpayer’s counsel should be present at this meeting. The Revenue Agent will negotiate the proposed adjustments. If agreement cannot be reached, the taxpayer’s counsel can speak with the Revenue Agent’s manager. If the case remains unresolved, the taxpayer can appeal the case to the IRS Appeals Office.
IRS agents should be treated professionally. IRS agents have a lot of power, and they are human. Treating them well is in the taxpayer’s best interests―they are more likely to give the taxpayer a break, and resolve grey areas in the taxpayer’s favor. An IRS Appeals Officer once told me, “You catch more flies with honey than you do vinegar.”
The IRS is entitled to inspect a taxpayer’s records and tour a taxpayer’s business premises. A Revenue Agent’s request for records should, absent privilege, be honored.
A taxpayer should never make a false statement to an IRS agent. If a taxpayer lies to a Revenue Agent, the agent will resolve doubts against the taxpayer, and may refer the case to CID.
If IRS agents appear at your premises unannounced, your case is very serious. This is a technique of IRS CID agents.