Tax Tips to Keep in Mind Now That Tax Day is Upon Us

Audit and Record Keeping Advice for 2024

Most of the articles relating to tax tips relate to reporting your income, available deductions and credits, and changes in income tax rates.  All of that advice is important, but I thought it would be useful to focus on the lesser discussed issues of responding to an audit and record keeping.  While you may think that audits are generally targeted at the ultra-wealthy, a recent Wall Street Journal article reported that, as of last summer, 63% of new audits were targeting income taxpayers with income of less than $200,000 a year.

To help better inform you on the issues of audits and record keeping, below is a set of Questions and Answers on those lesser discussed – but still important – tax matters.

If I get a notice from the IRS, does that mean I am being audited?

Not necessarily.  The IRS may contact you for various reasons, such as:

• Verification of withholding or tax payments – you may have to provide copies of Form W-2, Forms 1099 and other documentation that substantiates payments made on your behalf.
• Unreported income – banks, investment firms, and employers are required to report annually to the IRS the income that they have paid to individuals. If the IRS receives a report of income that does not appear to be included on your tax return, they will notify you and assess tax liability for the unreported income.  If you agree with the change, you can pay the balance due.  If you don’t agree, you will have an opportunity to protest the liability.
• Late payment or underpayment of tax – if you are required to make estimated tax payments or submit the amount you owe to the IRS after the due date, you may receive a notice with late payment interest and penalties.

How far back in time will a notice relate to?

• 3 years – in general, the IRS can go back up to three years from the original date of filing or due date of the tax return.
•  6 years – If you did not report income that you should have reported and it is more than 25% of the gross income shown on your return, or it is attributable to foreign financial assets and is more than $5,000, the time to assess the tax is six years from the date you filed the return.
• No limit –There’s no period of limitations to assess tax when you file a fraudulent return or when you failed to file a return.

How will I know if I am being audited?

You will receive an IRS Letter 2205-A that specifically states that your tax return for a particular year has been selected for examination.  It will also include the contact information for the agent conducting the audit, the areas of your tax return they are auditing, and what the next steps are.  You will never receive a phone call notifying you of an audit.

What do I do if I am audited?

• Stay calm. Although the IRS has an ominous reputation, most agents are very reasonable and are willing to work with taxpayers.
• Contact a CPA, Enrolled Agent, or accountant to represent you during the audit. Their experience allows them to advise you on reasonable documentation to provide.  These professionals also provide a buffer between you and the IRS.
• Complete a Power of Attorney (Form 2848) to allow the IRS to speak to your representative on your behalf, which will likely expedite the audit process.
• Provide organized documentation to substantiate income or deductions presented on your tax return. If you give an IRS agent an unorganized box full of receipts and bank statements, you may inadvertently open further areas to audit.
• Provide only the documentation needed to support the items in question. The IRS will sometimes request documentation for only specific areas of your tax return.  There is no need to provide information beyond what they requested.
• Upon completion of the audit, decide if you agree or disagree with the findings. If you agree, you can request an installment agreement to pay any additional tax and penalties that are being assessed.  If you disagree, you can request mediation or a hearing to appeal the decision.
• If your federal tax return changes because of the audit, you must amend your state income tax return to reflect any changes the IRS made on your federal return. The IRS will communicate the changes to your state tax agency; however, you may be able to reduce interest and penalties by self-reporting the adjustment.

How long should I keep my tax records?

• Prior filed tax returns – seven years from the date of filing. Our 2023 tax returns are due on April 15, 2024.  You should retain your tax returns for the years 2016 (due April 15, 2017) through 2023, along with all documents supporting items of income and deductions on those tax returns.
• Closing statement for the purchase of your home – permanently, unless you sell it, then for seven years after the sale.
• Investment purchases – permanently, unless you sell them, then for seven years after the sale.
• Inherited property/assets – most inherited property is revalued upon the decedent’s date of passing. You may request Form 8971 from the executor reporting the basis of assets that you inherited. It is recommended you retain the Form 8971 permanently, unless you sell the assets, then for seven years after the date of sale.
• Bank statements, utility bills, credit card statements etc. – seven years for business owners; for individuals, it is a personal preference if you do not have items of income and deductions that you need to substantiate on your tax returns.

Special thanks to my wife Sarah Dorsey, CPA, who provided valuable assistance in the writing of this article.  As is often the case, Sarah helps me sound much more intelligent than I actually am.  Thank you to Sarah and all those hard-working accountants out there who will soon be able to take a well-deserved rest after next Monday – April 15^th!

Matthew J. Dorsey, Esq. is a Shareholder with O’Connell and Aronowitz, 1 Court Street, Saratoga Springs, NY. Over his twenty-seven years of practice, he has focused in the areas of elder law, estate planning, and estate administration. Mr. Dorsey can be reached at (518)584-5205, mdorsey@oalaw.com and www.oalaw.com.