April 27th, 2012Top Story Take 3 Steps Now To Make Being Audited Later a Piece of Cake By Melanie Pinola Being audited sucks. To be honest, no amount of preparation will get rid of that gut-wrenching feeling of having the IRS coming after you and possibly having to pay a ton in tax penalties and interest. There are a few things you can do, though, to make the audit process less stressful—and maybe even easy, depending on your circumstances. Many of us only think about our taxes in the days or weeks before April 15, but the tools and services you use throughout the year are what can really help in the unlikely event you get that dreaded tax notice. I'll admit to feeling like I had the wind knocked out of me when I read my notice from the IRS claiming I owe over $8,000 in taxes and penalties for 2010, but since then the audit process has been pretty painless—because of these basic steps I had already taken. 1. Use Tax Prep Tools or Services That Include Audit Protection The IRS is pretty clear in its letter about the audit or, as they prefer, "examination" explaining how much they think you owe, what steps you need to take to respond, and the deadline you have to respond by (a month). There's a breakdown of each item from your return that differs in their calculations and explanations from the IRS why. It's clear and straightforward enough that people could respond to the IRS themselves (and there are lots of free resources to help you learn about and stand up to an IRS audit). The biggest stress reliever and time-saver for me, though, has been having someone else do the majority of the work for me. I self-filed using TurboTax last year and paid the $40 extra for the tax audit defense service for peace of mind. The tax audit defense service is kind of like insurance—if your income is under $100K, your odds of being audited is less than 1%, which works in TurboTax's and TaxResources' (the audit defense company) favor rather than yours. Most people won't need the service unless you're more of a high risk for being audited. I'm glad I got it, though. I had a somewhat complex return, with self-employment income and business deductions, investments, and a mortgage. With the audit defense service, I just needed to scan and upload my documentation to the enrolled agent assigned to my case. She's recalculating how much I might owe and preparing my audit response letter. In my discussion with her of the audit, she also helped me see that I needed additional documents than those I would have prepared on my own (The IRS said they needed verification for my tuition deduction, so I was just going to send the school's 1098-T form that they probably never got, but my enrolled agent pointed out I also needed a statement from the school showing the balance paid because the 1098-T form didn't have all the info.) H&R Block offers a similar tax audit protection service for free with their online filing called Worry-free Audit Support. If you have a CPA or enrolled agent prepare your taxes, he or she will likely also help you if you get a notice from the IRS, but would probably charge a fee to represent you in a face-to-face audit. With CPAs charging as much as $500 an hour, being audited can be a costly affair. But having pros on your side is essential. 2. Keep Your Tax Records Backed Up and Well Organized Having a solid tax recordkeeping system also streamlines the audit process (and makes filing your taxes every year simpler too). My stress levels would have been through the roof if I had to hunt down scattered papers from two years ago. I use a multi-pocket tax organizer folder to keep everything in one place. Throughout the year, when any tax-related receipts or documents come in, I stick them in one of the pre-labeled pockets. After April 15, I stick a copy of the tax return in there, label the folder with the year, and hope to never see it again. Another idea is to use labeled envelopes to organize your tax receipts or a expanding file folder. Whatever you use, make sure you have good backups of your all your tax returns and backup documents. Glen Ross of Ross & Company CPA says that keeping detailed records for all tax deductions is key to making the audit process less painful. Keep your cancelled checks or credit card statements for any deductions on your return, letters confirming charitable contributions, and for mileage, a detailed log of where you went and who you saw. If you're self-employed you need to be extra careful to document every business expense and maintain adequate records (returns with Schedule C are at higher risk for triggering an audit, and lots of business-related deductions can also be tax return red flags). I find that using a separate credit card for tax-related/business expenses helps organize all the deductions too, making them easier to find later. (I'm partial to American Express' convenient reporting of all your transactions, with category breakouts, ability to search transactions, and year-end reporting.) 3. Choose Financial Services With Great Customer Service This goes back to the "having pros on your side." Great customer service—from your bank, investment firm, credit card company, or other financial service—is critical when you need help and are scared and stressed out. In my case, the biggest trigger for the tax audit was an IRA conversion and recharacterization (converting from a regular IRA to a Roth results in a big tax bill, but I changed my mind about the conversion and quickly recharacterized it back, which should erase that tax burden). When I needed help finding which forms and documents exactly to give to the IRS, Fidelity's customer service rep was awesome, walking me through every screen to download all the relevant forms and making me feel less ill about the whole situation. Thinking about terrible customer service experiences I've had in the past with other companies, I'm glad I'm using a service that's actually helpful. Photo by Willis-Works Communications Except for the audit protection service, obviously these simple tips aren't just for preparing for a tax audit (no one wants or expects to get their number pulled). Hopefully you won't be that 1 in 100 people to win the IRS audit lottery anyway, but if you are, a little organization and having the right people on your side will make it less of a nightmare than you might expect. Had to deal with the tax man yourself? Have any tips for us on preparing for an audit or making it less painful? We're all ears in the comments. Photo remixed from an original by Robert Kneschke

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