An audit letter produces two instincts: to call the number on it and explain, or to put it in a drawer. Both make the audit worse. An examiner’s job is to find additional tax, and everything said to an examiner is part of the record. Silence, on the other hand, lets the agency decide the case on whatever it already has.
Representation changes the audit in a specific way. Once a power of attorney is on file, the agency deals with us. The taxpayer is not interviewed without us, questions are answered in writing from the records, and the scope of the audit is held to what the letter actually covers.
This article follows an income tax audit in the order it progresses, for both the IRS and California’s Franchise Tax Board.
What Kind of Letter You Received
- A correspondence audit (IRS Letter 566). The most common kind. The IRS asks by mail for proof of specific items, such as charitable deductions or business expenses. It is handled entirely in writing.
- An office or field audit (IRS Letter 2205 or 3572). An examiner is assigned, documents are requested in rounds, and meetings are held at the agency’s office or, for a business, at the place of business. These audits are broader and can expand.
- An underreporter notice (IRS CP2000, or the earlier CP2501 inquiry). A computer-generated notice proposing tax because income reported to the IRS by an employer, bank, or payment processor does not match the return. It is not an audit, but it has a deadline and the same consequences if ignored. If it goes unanswered, it is followed by a CP3219A notice of deficiency, which starts the 90-day Tax Court clock.
- An FTB audit or Notice of Proposed Assessment. California audits on its own, and its audits can either follow or lead to a federal audit. A federal change must be reported to the FTB within six months, and the FTB generally has four years to assess instead of the IRS’s three.
The Notice
Reading the letter correctly and taking over contact with the agency.
What the letter tells us
The letter names the tax years, the items in question, the kind of audit, and a response date, usually about 30 days away. We read it for what it does not say as well: which years are not open, which items are not listed, and how much time the agency has left to assess.
The power of attorney
We file a power of attorney with the IRS, the FTB, or both. From that point the examiner’s calls and letters come to us, and the taxpayer does not speak with the agency directly.
Deadlines
Response dates can usually be extended once by request, and we ask early. What cannot be recovered is a deadline that passes in silence, which lets the agency assess the proposed amount by default.
Preparation
Assembling the records and reviewing the return before the examiner does.
Records
An audit is decided on documents. We gather bank statements, receipts, invoices, mileage logs, and the books for every item in question, and we reconstruct what is missing from third-party records where that is possible. A deduction supported by a credit card statement and a calendar entry survives. A deduction supported by memory does not.
Reviewing the return
Before anything goes to the examiner, we review the entire return for problems the letter did not mention. If there is an error that cuts against you, we want to know first and decide how to handle it. If there is an error in your favor, it can offset what the examiner finds.
Only what is asked
Documents are organized to answer the specific request, and nothing else is included. Extra records invite extra questions.
The Examination
Responding to the examiner’s requests while keeping the audit within its scope.
Document requests
The examiner issues written information requests, and we answer them in writing, item by item, with a cover letter that explains what each document shows. Each response is complete and on time, which builds the credibility that matters when a judgment call comes up.
Interviews and meetings
In an office or field audit the examiner will want to meet. We attend, and in most cases the taxpayer does not need to. When the taxpayer’s own testimony is required, we prepare for it the way we would for any sworn statement.
Scope and the statute
An examiner may propose expanding the audit to other years or other items, or ask you to sign an extension of the time to assess. Each of these is a decision, not a formality, and we weigh it against what the expansion would likely find.
The Findings
Deciding whether to agree with the examiner or take the case further.
The examiner’s report
The audit ends with a written report, sent with a 30-day letter (IRS Letter 525), proposing changes to the return, additional tax, interest, and often an accuracy penalty of 20 percent. Agreeing closes the matter at that number. Disagreeing opens the next level.
IRS Appeals
A written protest takes the case to the IRS Independent Office of Appeals, a separate office whose job is to settle cases based on the hazards of litigation for both sides. Many audit results improve at this stage. If Appeals does not resolve it, the IRS issues a notice of deficiency (Letter 3219), and you have 90 days to petition the United States Tax Court before paying anything.
The California path
The FTB issues a Notice of Proposed Assessment. A written protest must be filed within 60 days. If the protest is denied, the case can be appealed to the Office of Tax Appeals, an independent state body.
The 90-day Tax Court deadline and the 60-day FTB protest deadline are not extended for good reasons. Once they pass, the tax is assessed and the only remaining questions are about collection.
After the Audit
Dealing with the bill, the penalties, and the other agency.
Penalties
Penalties are negotiated separately from the tax. A first-time penalty can often be removed on request, and others can be removed when there was reasonable cause for the error. We ask in every case where the facts support it.
The other agency
A federal audit result must be reported to California, and the FTB will issue its own assessment based on it. Handling both at the same time avoids a second surprise a year later.
Paying
If the final amount cannot be paid at once, the options are a payment plan, an offer in compromise where the numbers support one, or a temporary hold on collection. The audit result and the collection plan are two separate negotiations.
What It Costs
Audit representation is billed by the hour or, for a correspondence audit with defined issues, at a flat fee. The cost depends on the number of years and items under examination and on the state of the records. We give an estimate at the first meeting after reading the letter and the return.
- The audit letter and every notice that came with it or after it
- The tax returns for the years named, and the year before and after
- Bank and credit card statements for those years
- Your books, receipts, and records for the items in question
- Any correspondence you have already had with the agency
Gregory Grigoryants is a California attorney (State Bar No. 286804) who has represented individuals, families, and business owners in bankruptcy, debt collection defense, and tax resolution matters for more than 13 years. He practices from offices in Sherman Oaks and Beverly Hills and speaks English and Russian.