Quaking, quavering and absolutely convinced he was going straight to jail, the man arrived at Lowell Langers' office for his Internal Revenue Service audit.
"He really thought he might go to jail from our office," recalled Langers, a former auditor who now serves as a press officer for the IRS in Los Angeles. "But after I recomputed his taxes, he ended up with a refund."
Each year, about 2 million U.S. taxpayers receive word that their tax returns are being audited. Yet the chances of being audited are surprisingly slim. More than 178 million federal tax returns are filed each year. Ninety-nine million are from individuals, and of those, only 1.3% are audited, according to Sandor Frankel, a tax lawyer and co-author of "You Can Protect Yourself From the IRS."
If your total income exceeds $50,000, an audit is more likely because 3.5% of the returns in that range are audited, according to Frankel.
Although most taxpayers will never be subjected to an IRS audit, if you are, it pays to be well informed and prepared.
Auditors, certified public accountants and others who deal with the IRS say most people can survive--and even win--their battles with the IRS if they follow some basic advice: Stay calm, be polite, be prepared to answer questions, be armed with documentation to back up your deductions and do not assume that the government is always right.
"You ought to treat the IRS agent with a tremendous amount of respect and act as if he or she is the highest court in the land," said Bob Brown, a Pasadena CPA. "If you try to trick him or overpower him, you'll just cost yourself time and money. It's not a game, it's serious stuff."
What most taxpayers don't know is that IRS auditors are under tremendous pressure to complete and close cases. Each case is supposed to take 1 1/2 hours from start to finish, including the final report, according to the IRS' Langers. On an average day, an auditor sees five taxpayers and has little patience with people who waste his or her time, Langers said.
The IRS computer is programmed to red-flag anything unusual, primarily focusing on large deductions taken for medical, travel or entertainment expenses, substantial business or casualty losses and questionable charitable deductions, according to CPAs and tax experts. Any type of tax shelter--especially a money-losing one--is sure to attract attention.
As a general rule, the larger the loss or deduction, the more likely the return will be audited. Although the initial work is done by computers, an actual person, called an examiner, has the final say on which returns are audited.
In addition to returns kicked out by the computer's Discriminant Function System (which selects about 80% of the returns that are audited) the IRS relies on several other methods of selection. Some returns are chosen at random through the Taxpayer Compliance Measurement Program, which collects data every two or three years. The information gathered helps the IRS measure the average amount of deductions and exemptions claimed by taxpayers at all income levels.
Still other audits focus on certain types of occupations, such as private-duty nurses who may not report all their income or casino dealers in South Lake Tahoe who are suspected of not reporting all of their cash tips.
Other taxpayers are audited because their tax preparer is under investigation for fraud or negligence. In those instances, all of the returns prepared by a specific person are audited, according to Mary L. Sprouse, former IRS audit group manager in Los Angeles and author of "Sprouse's Income Tax Handbook 1987."
So, what if you are among the unlucky 2 million people subjected to an IRS audit?
Tax professionals say it is important to understand how the system works before you appear for your audit appointment. The primary question to be answered is how did you arrive at a specific figure and what do you have to back it up? If you are prepared to answer calmly this type of question, the rest is easy. Remember, too, that audits can result in a tax refund, not just penalties.
The experts provide these basic tips:
Give yourself plenty of time to get to your appointment. Many IRS offices do not have parking lots or convenient places to park.
Wear comfortable clothes; there is no need to dress up.
Organize your documents before the audit. A shopping bag filled with receipts will not win any friends among auditors.
Bring every type of record or document you think you might need, including divorce and escrow papers, personal calendars, log books, canceled checks, etc.
Be polite. Don't be antagonistic. The auditor is there to do a job, not give you high blood pressure or an ulcer.
Brown, the Pasadena CPA, said the type of records that you bring to an audit can make or break it. The best proof is "contemporaneously prepared records," such as third-party invoices, receipts and other types of official papers.
The second-best evidence is internally prepared records, such as checkbook registers, journals and ledgers.