The Tax Man Cometh: How to Avoid an Audit 101

Vento CPA

John J. Vento

Audit. It’s a word that strikes fear into the hearts of taxpaying Americans everywhere. Even if an audit doesn’t end up being painful (to your bank account, that is), it’s a stressful hassle that no one wants to deal with. And with tax day just around the corner, many Americans are anxious to do whatever they can to avoid hearing thea-word in the future.

“The good news is, there are a lot of things taxpayers can do to minimize their chances of being audited,” says John Vento, president of his New York City-based Certified Public Accounting firm, John J. Vento, CPA, P.C., and author of the new book Financial Independence (Getting to Point X): An Advisor’s Guide to Comprehensive Wealth Management (Wiley, 2013, ISBN: 978-1-1184-6021-4, $40.00, www.ventocpa.com). “If you take a little time to learn about what often sparks audits and take some wise precautions when preparing your returns, you should be able to face April 15—and beyond—with peace of mind.”

Here, Vento shares five things you should know about tax audits:

Work with a trusted financial advisor. The average American family pays more than one-third of its income in federal, state, and local income taxes—and even more in property taxes, excise taxes, sales taxes, and other hidden taxes, such as taxes on cigarettes, liquor, and certain luxuries. For such a substantial expense, isn’t it worth making sure that you “get it right” the first time?

“Tax laws are incredibly complicated, and it’s very difficult for the average American to understand the virtually infinite ins and outs of the often arcane U.S. Tax Code,” points out Vento. “A professional tax advisor can not only help you make sure that nothing the IRS wants slips through the cracks, he or she can also make sure that you benefit from tax strategies and don’t overpay!”

Know what triggers audits. Certain items can trigger an audit: a sudden increase in income; returns missing a signature; itemized deductions that are exceedingly high, or higher than previous years or the average of others in the same tax bracket. Working in an occupation that lends itself to cash income (such as being a server or a hairdresser) or being self-employed also makes it more likely that the IRS will check up on you, as does preparing your own returns (especially if they’re complicated!).

“Anytime the IRS suspects that you may not be paying your full share of taxes, you can expect it to verify that all is as it should be,” Vento comments. “Even entering round, ‘too-perfect’ numbers on your returns can arouse suspicion.”

Keep meticulous records. If it does audit your taxes, the IRS will be looking to see that all income received was properly reported and that any and all deductions were legitimate. As a result, it is imperative that you keep complete and accurate records.

“It’s especially important to keep records and receipts for areas in which people tend to, shall we say, overstate the truth,” shares Vento. “These include business travel expenses, charitable deductions, and expenses for your home office, if you have one. And no matter what you’re reporting, before you send your returns in, double-check them to make sure that all of the numbers add up!

“While it may be a bit late to put into practice this year, make it a goal to keep tax records on a year-round basis from now on (if you don’t already),” Vento adds. “Throwing relevant documents into a drawer or shoebox and then hastily assembling them just for your annual tax appointment can lead to problems. Without complete, careful records, you can lose valuable deductions by forgetting to include them on your tax return, or you may have unsubstantiated items disallowed if you are audited.”

Save old returns and records. Generally, returns can be audited for up to three years after filing; however, the IRS may audit for up to six years, if it discovers substantial unreported income. The three- and six-year limits start with the filing of a tax return; if no return is filed, the time limit never starts to run. In other words, if you have failed to file a return, you can be audited and taxed at any time.

“First lesson: Always file your taxes!” Vento quips. “Secondly, I advise my clients to store their tax return supporting documents for at least three years, or to be on the safe side, for six years. That includes all supporting documents that you used in preparing your income tax returns. These include:

• Records of income received

• Expense items, especially work-related expenses

• Home improvements, sales, and refinances (for homes with profit potential of $250,000 or more)

• Investment purchases and sales information

• The documents for inherited property

• Medical expenses

• Charitable contributions (records vary with value of donation)

• Interest and taxes paid

• Records on nondeductible IRA contributions

“That said, some records are worth keeping permanently, partly because of long-term needs and partly because they take up very little room,” Vento adds. “Consider permanently retaining a copy of each year’s tax return. As long as you have correct documentation, you won’t need to panic or scramble to re-create returns if an audit does happen. It’s better to be safe than sorry! Remember, there is no statute of limitations if you never file a tax return. Therefore, if you cannot prove that you filed your tax return, you can be audited for that year at any time. I would encourage everyone to keep a permanent electronic copy of their tax returns stored on a flash drive and put it away in a secure place, password protected of course. Even better, have your tax preparer send you a PDF copy of your tax return and don’t even bother with a paper copy. This is not only eco-friendly but it will take up less space and you can store a lifetime of tax returns on a single flash drive.”

If you are audited, know the difference between audit types. Not all audits are created equal. If—despite your best efforts—the dreaded a-word is directed at you, it doesn’t necessarily mean that you’ll be subjected to a tense, line-by-line review of your return with an IRS agent. There are actually five types of audits, the least serious of which are conducted by mail, (usually) resolved easily, and do not require you to meet face-to-face with an IRS agent. If you are asked to do an office interview, the IRS probably has more serious questions for you. And it’s always possible that you might be one of the “lucky” Americans chosen to undergo a random audit each year.

“When you receive an audit notice of any type, I suggest contacting your tax advisor,” Vento says. “He or she can help you determine if the tax audit notice is correct or incorrect—which happens often, believe it or not—and advise you on how to best proceed.”

“If you do fall into any category that puts you at a higher risk to be audited, don’t let anxiety prevent you from taking advantage of any legitimate tax deductions for which you qualify,” concludes Vento. “Remember, the Internal Revenue Service does not require you to pay any more in taxes than the law requires. Don’t overpay Uncle Sam by not taking advantage of what you’re allowed—or even worse because of fear. As long as you’re taking precautions, being honest, and working with a qualified tax preparer, you have very little to fear from the IRS.”

John J. Vento is author of Financial Independence (Getting to Point X): An Advisor’s Guide to Comprehensive Wealth Management (Wiley, 2013, ISBN: 978-1-1184-6021-4, $40.00,www.ventocpa.com). He has been the president of the New York City-based Certified Public Accounting firm John J. Vento, CPA, P.C., and Comprehensive Wealth Management, Ltd., since 1987. His organization is focused on professional practices, high net worth individuals, and those committed to becoming financially independent. He has been the keynote speaker at various seminars and conferences throughout the United States that focus on tax and financial strategies that create wealth. John has been ranked among the most successful advisors of a nationwide investment service firm and has held this distinction since 2008..

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