The tax Audit as a Revenue Generating Machine: Coming Soon to a Company Near You

Good news handshake in the office

Remember when the tax code was viewed as a nuisance; a necessary evil in your everyday life of running a business? Well, get ready for that nuisance to make a major intrusion into your life, kind of like that moldy cheese the infiltrates the bottom drawer of your refrigerator.

Have you seen the headlines lately? Payroll tax audits on the rise. A renewed focus on Unclaimed Property/Escheat audits. Sales and Use Tax audits climbing. IRS’ 5 year Strategic Initiative focused on closing the tax gap ( All of this is aimed at increasing revenue for the State and Federal Government in the wake of diminishing revenue during this recession.

Don’t think that you are immune. State and Federal Governments are hiring thousands of enforcement officers this year in their attempt to increase revenue. If your records are suspect, spend the time now to get your information in order.

At Bridgepoint Consulting, we have seen several of our clients inconvenienced by these audits this year. Here are some areas of focus we have gleaned during our interaction with the tax auditors:

IRS Tax Audits

We have a client who was “randomly” selected for an IRS audit. The client generates approximately 75% of its $15MM in revenue from State Government contracts. The auditor reviewed client invoices and selected a large sample of expenses, only to find nothing. After 3 days, the auditor finally asks for the corporate credit card statements of the company owners during the summer months. He asks if they were married or if they had children. What was he looking for? You guessed it: Personal vacation expenses (or any personal expenses) flowing through the company. Often, personal expenses of the owners are overlooked and are booked as company expenses. The agents are targeting every last detail in their search for revenue. He even had us pull records for a $16 purchase! There is no lower limit to what they will review. Again, after finding nothing, we entered into a “negotiation” of sorts. He has to justify his existence and according to him, “no company is perfect”. So, since the client couldn’t find support for three expenses, he extrapolated that into a $1,300 payment to the IRS.

Make sure your personal and business expenses are segregated and do not run your personal expenses through the company.

On a related note, you might warn your 1099 contractors about impending reviews. The auditor also asked for all 1099s so that he could trace the revenue to their personal returns and ensure they were reported.

Sales and Use Tax Audits

Most everyone understands the basics of sales taxes. You sell something tangible, collect sales taxes, and remit them to the State monthly or quarterly. What about the intangible? Be careful – your service may be taxable ( Personal services, such as laundry or carpet cleaning services and Debt Collection Services are just a few examples of taxable services.

Where the auditors have keenly focused, however, is the “Use” portion of the Sales and Use Tax. What is the Use Tax? Here is the definition, courtesy of the Texas Comptroller of Public Accounts:

“A tax, complementary to the sales tax, imposed on taxable goods and services that are purchased, leased or rented for personal or business use, storage or consumption in Texas on which Texas sales or use tax has not previously been paid. Texas use tax is due regardless if another state’s sales or use tax has been paid. Examples of items subject to use tax include purchases made over the Internet or the telephone from an out-of-state seller who does not collect tax and items purchased while visiting another state or country.”

The most common mistakes we tend to see are purchases of computers, computer equipment, and software over the Internet, where no tax is typically charged. Most of these items are purchased with a credit card, which further complicates your internal reporting processes. Set up a monthly Outlook reminder for yourself to investigate these types of purchases within your company. Regular monitoring will make the reporting process more efficient and cause less headaches in the event of an audit.

Unclaimed Property/Escheat Audits

Unclaimed Property: seems kind of like a state wide lost and found, right? And boy, has the State found a relatively easy gold mine. According to a recent Thomson Reuters survey, only slightly more than half of the surveyed companies are filing their unclaimed property reports and less than half have written policies and procedures in place. States have found the enforcement of unclaimed property to be an extremely attractive source of revenue without having to raise taxes.

Another scary proposition for business owners: there is no Statute of Limitations. Per the Texas Comptroller of Public Accounts:

“Effective September 1, 1987, Section 74.308 was added to the Texas Property Code which eliminated this defense prospectively. With a four-year statute of limitations period on debt in Texas, September 1, 1983, is often established as the earliest date from which the State could require delivery of the types of property to which this statute of limitations applied. Periods of limitations applied under the Texas Civil Practice and Remedies Code 16.070 could, by contract, place the limitations cutoff at September 1, 1985.”

As your audit could potentially cover a period of 25 years, do your homework now and proactively begin making a list of potential unclaimed property. To review the Unclaimed Property Manual, see

States continue to face massive deficits in their budgets. Audits of all kinds are a convenient vehicle for fund raising, without having to raise taxes. With this in mind, take proactive measures now to avoid a sudden and unexpected outcome from a tax audit. Reach out to your team of external tax and accounting professional(s) and ‘refresh’ on the applicable code provisions that apply to your business. Next, conduct a self-directed audit to ensure that adequate processes, controls, and documentation are in place to minimize exposure areas. A modest investment in a short term engagement can either confirm that processes and documentation (and therefore exposure) are tight, or identify areas of improvement that are preventative for tax purposes and good for business.*****