At best, a business tax audit will consume only time and personnel resources. At worst, you and your business could face criminal charges and payments of additional taxes, fines, and penalties. Moreover, if the audit uncovers fraudulent activity, substantial underpayments of taxes, or unreported income an audit can be expanded from three to six years, or indefinitely. If your business is facing a business tax audit, the attorneys at Rosenberg Martin Greenberg, LLP in Baltimore urge you to prepare for the audit by performing your own internal review of tax documents before you meet with an auditor or provide any information.
Understanding the business tax audit process and its potential outcomes are the key to your business’s ability to exit the audit with minimal impact on its finances and operations.
Common Elements in Business Tax Audits
IRS auditors have broad authority to examine many different aspects of your personal and business finances. Nonetheless, a majority of business tax audits revolve around a few common themes:
- Is the business owner’s lifestyle consistent with the amount of revenues that the business reports? A business that reports low revenues, but whose owner drives an expensive sports car, for example, will likely raise an auditor’s suspicions.
- Does the business report significant amounts of cash receipts? Tax authorities prefer checks and electronic payments because they create an objective paper trail of revenues and payments. Cash businesses are more likely to receive heightened scrutiny.
- Can the business justify and substantiation the expenses they claim? Reimbursements for the use of a personal car or for travel and meal expenses can be justified as a legitimate part of a business, but the business should maintain detailed receipts and have a credible rationale for all expense reimbursements.
- Did your business accurately report all of its income? A business can face criminal prosecution if it fails to report $10,000 or more in income.
Did the business properly report salaries and payments to employees and contractors, and did it make all required payroll tax payments? Many businesses rely on payroll processing services for employee payroll taxes, but any attempt to evade those taxes by claiming employees are “independent contractors” will garner extra attention from an auditor.
Potential Financial Consequences of a Business Tax Audit
If a business tax audit does uncover underpayments, your business could face penalties in one of four general categories:
- A 20% penalty for using wrong property values to calculate taxes, for disregarding IRS rules, and for understating your business’s tax liability.
- A 75% penalty for serious tax underpayments associated with fraud (Note: once the IRS determines that a business committed fraud, the burden shifts to the business to prove otherwise).
- Interest on unpaid amounts, calculated from the date on which an improper return was filed.
- Criminal convictions, significant fines, property forfeiture, and incarceration for serious tax evasion and other tax crimes.
Factors that Raise a Business Tax Audit Risk
The IRS selects a certain number of businesses at random every year for tax audits, but actively chooses other businesses when it detects certain anomalies in their tax filings:
- Large expenses that are inconsistent with the nature of the business;
- Inaccuracies in payroll tax payments, and excessive payments to independent consultants;
- Cash receipts that appear to be too low for the operations conducted by the business;
- Complex transactions and investments that have no apparent business purpose;
- Prior state or federal tax problems or audits.
The IRS also continues to encourage whistleblowers and informants to report suspicious business tax matters, and more than a few business tax audits have been catalyzed by disgruntled current or former employees.
Contact the Baltimore Tax Lawyers at Rosenberg Martin Greenberg Today
During an audit, the IRS will examine the finances of both the business and its owners. Accordingly, you will assume significant risks if you respond to a business tax audit without the assistance of experienced counselors. The tax attorneys at the Baltimore law firm of Rosenberg Martin Greenberg LLP can help businesses and individuals reduce their risks when they face a business tax audit and minimize any fines and penalties that might be levied as a result of the audit.
For information on our business tax audit services, please see our website or contact us to schedule an appointment with one of our business tax attorneys today.
Additional Business Tax Resources:
- nolo.com: What Auditors Look for When Examining a Business, https://www.nolo.com/legal-encyclopedia/irs-audit-auditors-small-business-30033.html
- investopedia.com: Surviving the Business Tax Audit. https://www.investopedia.com/articles/pf/06/irsaudit.asp
- irs.gov: IRS Audits: https://www.irs.gov/businesses/small-businesses-self-employed/irs-audits