Tax audits

[BurnsWhenIPee]

Got notice yesterday my state is questioning my work-related expenses that I deducted from my income taxes from 3 years ago and they want all my receipts and a list of about 15 pieces of supporting documents within a month.

I know I should have kept it all, but I'm sure I can't come up with all of it - maybe half of it would be ambitious. So obviously I'm freaking out.

Beyond the obvious to keep everything tax related for 7 years or whatever, anyone been through this and have any advice? Be straight with them that I don't have it and pay the difference, get one of those tax settlement lawyers that are on the radio all the time, get what I can and give it to them, beg for mercy?

The difference in my tax burden would only be a few hundred bucks, so I don't mind paying that to make it go away, but don't know if that would trigger additional audits of past and future years, federal audits and just a big PITA across the board.

 

[93Devil]

If you use bank and debit cards a lot, ask for your bank statements from those years and note your work expenses.

If you have a rewards card, that also keeps a history for you.

 

[The Big Ragu]

Sorry, man.

I have never been through an audit, but if I did I'd have my accountant (she revels in this stuff) right next to me. I don't know that I would try to face them down without her there.

I do know that as intimidating as they are, you should push back a little. First, don't ignore the notice. ButI am sure you have a right to do this in a timeframe that works for you, not the timeframe they dictate to you. So if you need more time to prepare, I'd respond saying so. Be reasonable in what you tell them you need, but push back. And do respond.

If it was me, I'd be prepared for the worst case: the additional taxes and penalty. But I wouldn't roll over. Be respectful of whoever you end up dealing with. If it is a small audit, my guess is that it all gets done without any face-to-face interaction. Just by mail or phone.

If it really is a matter of having not kept receipts (and not a fudged return), go in stating that. 93 is right. Reconstruct whatever you can in whatever ways you can to document the expenses. Credit card statements are the obvious way. But if you have other legitimate expenses that you don't have a paper trail for, they are still legitimate expenses! You did nothing wrong. So swear out an affidavit (just tell the truth!) documenting the expenses you claimed -- on your word.

I know this is intimidating, but I would try not to forget that you have more rights than whoever you end up dealing with -- even if he or she has unfair power to mess with you. At the end of the day, I'd guess they aren't all jerks. They are just doing a boring job. So be respectful. ... but resolute. Challenge -- respectfully -- anything they claim that isn't correct. They get things wrong. Don't say anything or put anything in writing that you are not certain about. If they come back to you with questions, buy time -- tell them you are not certain and you will have to get back to them.

That is why I wouldn't personally ever go through this without an accountant I trust. He or she will recognize their end game, be able to speak their lingo, and when the accountant says you will need to get back to them on something, it is credible.

But if you hire someone (don't have someone already) then it is really a financial decision. Figure out the penalty and back taxes you are facing, and balance it against the cost of the accountant. If it's close, you might want to give it a go on your own, and see if you can bring down what it will take to make them go away, on your own.

Oh, and if they come back to you with a bill that you think is wrong, appeal. Be respectful -- but don't make it easy for them to take your money.

 

[Big Circus]

Absolutely find an accountant. Having someone on your side who is conversant in the tax process and up on his or her regulations is a must.

 

[The Big Ragu]

I'd agree with Big Circus. But if the cost of the accountant is going to is going to be greater than the back taxes and penalty you are looking at, it doesn't make sense to pay that person. Your base cases is the back taxes and penalty for a tax bill that would have been computed without the expenses you can't document. Come up with a rough estimate of that number and make a decision, by comparing that "worst case" against the cost of the accountant.

 

[BurnsWhenIPee]

Thanks for the responses and pardon my ignorance, but would it be better to go with an accountant or a lawyer with a background in tax law?

 

[Amy]

A tax accountant should be able to handle this.

When you consider the costs of additional tax, consider the cost if the same expense disallowance is picked up on your federal return. This sounds like a challenge to deductions in determining federal taxable income, which then flows through as the starting point on your state return.

State departments of revenue and the IRS exchange audit information, so there is the chance the IRS will pick up this change (putting aside whether you have any legal obligation to file an amended return).

 

[RecoveringJournalist]

I'd get an attorney who will have you properly prepared for the audit and can advise you what to say or not to say. Even if you end up owing a lot to the IRS, the right attorney can negotiate that for you as well.

 

[MisterCreosote]

Don't most tax preparers, including Turbotax, offer audit defense services included in the filing price?

I know H&R Block does.

 

[BurnsWhenIPee]

Don't most tax preparers, including Turbotax, offer audit defense services included in the filing price?

I know H&R Block does.

I always do my taxes with the H&R Block computer program, and they do, too. I should check with them, but I think it's limited audit defense, like if it's a mistake that can be attributed to them, it's on them. But if it's user error, like the dumbass in question doesn't keep all his receipts and documentation for the next 7 years, it's on the dumbass.

 

[MisterCreosote]

I'm pretty sure they defend you, or at least advise you, regardless. IIRC, the distinction as to who's at fault only applies to who will pay the difference (i.e. if they made the mistake, they'll pay the back taxes).

Either way, it's worth a shot.

 

[The Big Ragu]

I'd call H&R Block and ask. A guarantee in which they get to unilaterally decide what kind of audit is "their mistake" wouldn't be much of a guarantee. My bet is that they provide a rep for an audit if you use their software -- period. The chances of audits aren't that great, and then on top of it, not everyone is going to take advantage of the guarantee. So I am sure it's something that got factored into the cost of the software. I'd absolutely take advantage of it, if they provide you with a CPA, and let that person communicate for you.

 

[SJ Staff]

As @Amy said, a tax accountant should be fine for this, generally cheaper than a tax attorney. Not all accountants are equal--if you don't have one you work with already, I'd call several and interview them on how they've handled situations like yours for their clients before. Ask what the outcome was. Most are happy to give you solid advice on the highpoints of handling this for 5-15 minutes for free just to prove they know their stuff.

You might ask the accountant their thoughts on telling the tax dept "This stuff is pretty buried and will take me a while to dig up, how much is the tax penalty? If it's <$500, it might not be worth my time to dig into my records vs just pay the penalty." I'd be curious what the accountants say.

For anything under $75, the IRS doesn't require original receipts as long as the expense was properly documented. In that case, the question won't be whether the expense happened, it'll be whether the expense was biz vs personal. I'm not sure if state depts do the same or not, but it's worth asking--it might save you a boatload of time on tracking down receipts.

Also, going forward, you might consider using Expensify to keep a digital record of everything. It's free if you're the only person using the account, and very easy to take photos or emails or scans of any receipts, plus they'll auto-import charges from your credit card and turn them into expenses. I switched to Expensify at the beginning of last year and it's been a huge timesaver plus I keep better records as a result.

 

[Amy]

I did a search for state tax audit and unreimbursed business expenses, finding this article about one state's program focused on increasing revenue by targeting unreimbursed business expense deductions:

Dear Taxpayer: State cracks down on unreimbursed business expenses | PennLive.com

One more search found your state has contracts with the same company helping Pennsylvania.

See if H&R Block will help you pull together the documentation and bully the Department of Revenue. I'm checking with a tax lawyer friend in your state to see if she knows anything and if she can recommend a reasonable state auditor to contact to make this go away.

 

[Amy]

According to my local tax lawyer contact, the State has instituted some fraud detection projects, using a company that identifies potential cases of fraud in return for a percentage of revenues generated. This likely falls within this project because someone having both a W-2 and unreimbursed business expenses raises a red flag. She said if your deduction was pulled out of the air by H&R Block, based on things other than actual unreimbursed business expenses, just pay up now.

Both of us think if the number is based on actual expenses, pull together as much as you can to document expenses, any reimbursed amounts, and evidence of your employer's policy to not reimburse all business related expenses, as well as an explanation, if any, of why you don't have complete documentation. A good faith effort at producing records will not only reduce the audit change to the extent you have documents, but may buy you goodwill to get the rest of the amount you claimed but can no longer document. May not, but you never know.

If you need more time, ask for it. In my experience, reasonable extension requests are always allowed - but get it in writing!

Your submission will get to a DOR auditor, no way to get one you want.

My strategy if you have some documentation is to play nice and not hardball. You want the auditor to understand what an honest, helpful person you are so may be willing to give you a benefit of the doubt on the undocumented stuff.

A local accountant who does a lot of work representing individuals at DOR may have knowledge of what kind of documentation is acceptable and what leeway is allowed and may even have relationships with the auditors that can make things go more smoothly.

My contact did not know if DOR sends its audit info to the IRS and wondered whether the changes would meet the IRS's materiality level. However, that means playing the audit lottery, something that as tax lawyers we won't recommend as a legitimate tax filing strategy.

 

[BurnsWhenIPee]

Thanks for the help everyone, and not that anyone cares, but after reading the other tax thread figured I'd provide some closure to this one.

I dug through my records and couldn't find a shred of the supporting documents to go with this, only the printout of the tax return that I filed electronically. I immediately called the number on the letter from the state and told the woman I was having trouble finding it, but I was still looking and would respond by the deadline. She seemed surprised I called so quickly and said she'd put with my file that I was responsive to their inquiry.

Talked to a tax accountant, and they told me I was basically screwed, and estimated it would be a few thousand dollars in taxes, penalties and interest. I kept looking and could find nothing. About a week before the deadline, I called the state again and told them I wouldn't be able to get them anything but the documents they wanted that were part of my return. This woman told me to just send what I had.

I scanned and e-mailed those couple of pages of the return to the state, and wrote in the body of the e-mail that I know I screwed up, assured them that I was very conservative when it came to claiming those work-related expenses, but I understand if they are disallowed and I need to pay a "stupid tax" for not keeping my records long enough.

About 4 days later, I got a letter from the state saying I provided everything they needed and the matter is closed from their end.

I guess they get so many people that just ignore those inquiries that they will go out of their way to help people who do respond.