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Appropriately reducing or positioning the payment of federal, state, and local income taxes is a critical component of assembling and retaining capital from which wealth grows. Although income taxes may seem hopelessly complex, effective planning is a critical element in capitalizing on tax benefits.
Small Business Audits
IRS using client back-up files from QuickBooks
A long-standing debate in many audits has centered on records – and the preferred format of those records – provided by the taxpayers. The IRS gets more serious about using electronic books, such as back-up copies of accounting software, in audits.
Many small businesses use off-the-shelf accounting software, with reportedly more than 85 percent using QuickBooks. Today, most small businesses store all or part of their information electronically. The IRS maintains broad authority to examine electronic records to establish the taxpayer’s correct tax liability.
The IRS prefer reviewing and assessing the original books of entry – not translated or interpreted version – to evaluate audit trails and reliability of records. In addition, the description of electronic books and records also included taxpayer websites, e-commerce activities and web marketing material. Such information is useful for audit trails in tracing income such as e-payments.
The 2001 tax gap study concluded that non-farm small business compliance rate was 43 percent, and small business underreporting of income contributed $109 billion annually to the U.S. Treasury shortfall. As a result, small businesses should encounter more IRS scrutiny.
Electronic records are, in general, less reliable than paper counter parts due to the ease at which they can be manipulated, such as reducing and/or deleting of sales transactions. In addition, business owners do not necessarily make good bookkeepers as they frequently need to have adjustments made to account correctly for some transactions. The concern is that the IRS will jump to conclusions by perceiving these errors as clients attempting to manipulate the books and records.
The following are several tips should the IRS call:
- Create separate back-up files for each year.
- Provide the IRS only the data needed for the year under audit by condensing (summarizing) transactions in non-audit years.
- When providing electronic data, written communication should accompany the electronic records being delivered to the IRS and the scope to which the IRS is going to use them.
Using electronic records in small business audits is a relatively new approach. That being said, as audits on small businesses increase, close monitoring of the clients’ books and records to protect them from unnecessary inquiry by the IRS becomes more critical for practitioners.
Should you be interested in additional information concerning the IRS audit process or effective monitoring of accounting data, contact Hodges & Hart, LLC CPAs.
This article is authored by Brian Tanz, AVA, CBA & Director.
Source: The Accountant, The Pressure Mounts: IRS Taking Closer Look at QuickBooks Files in Audits, November/December 2011, Published by Oregon Society of CPAs, www.orcpa.org
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