Steps to avoid triggering an IRS business audit

Written By Steps To Faculty Published October 14th, 2010

Do you fear getting an IRS audit? You are not alone. Each year many business owners fear being audited by the Internal Revenue Service. When you are starting your own business one of the first things you do is organize your business so as not to trigger an IRS audit. Not only are IRS audits time-consuming, but they can be expensive if it is found your tax filing is in error and you are forced to pay back taxes that can be in the thousands or even million of dollars depending on the size of your business. Generally, the IRS only audits less than 2% of all filings and focuses on tax returns that have a large amount of deductions relative to the reported profit. There are ways you can avoid triggering an IRS audit. Take a look.

Step 1 Reduce expenses

When you were starting your own business you naturally had varying expenses. Over time, these expenses are more predictable, however, need to be kept in check. When expenses are more than 30% of total net profit, this triggers an audit according to the AICPA. If you report losses greater than $20,000 more than the total net value of your business, this also triggers an audit. When possible defer portions of your deductions when starting your own business for future dates. If you report all these expenses at once, the IRS will get suspicious.

Step 2 Watch the number of expense categories

Like the first step, it is natural to have multiple categories of expenses. If you have a McDonald’s franchise your insurance expenses are greater than other types of businesses. In similar fashion, expenses such as rent and labor vary from business to business. Be sure to document all expenses before deducting them. Be careful of putting too many expenses under the “misc.” category. This also raises a red flag to the IRS. Be specific about your expenses and how to categorize them. See accounting101.com for help.

Step 3 Look at your cash

Small businesses that bring in large amounts of cash and pay suppliers with cash are considered red flags for the Internal Revenue Service. The Internal Revenue Service checks for every cash transaction when something does not seem right, so be careful when you are running a cash business or use a cash based account reporting system.

Step 4 Document unusual expenses

From time to time, your business may have to sell equipment to generate revenue to cover costs or buy a new plant to sustain growth. If there is a natural disaster and your company requires repair or if you land a client that is expensive to maintain, be sure to document in detail the reason for an unusual expense. Any unusual expense triggers an IRS audit.

Step 5 Use caution when getting personal

When starting your own business expenses such as telephone (for business), meals and entertainment, and even subscriptions seem tempting to deduct. But to the IRS, these are personal expenses even if you can prove otherwise. The IRS will examine each expense along with the actual receipt and cross reference and cross check every single itemized business expense that seems personal. Try to minimize the amount of “personal” expenses you have. For example, get a separate phone for your business.

Remember that you cannot fool the Internal Revenue Service. Please visit stepsto.com for more great business advice.


Roger Due

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