Helping Small Businesses Avoid Audits

In the past, when it came to auditing small businesses, federal tax auditors often worked in the dark. Frequently, the auditor had little or no knowledge about the type of business under scrutiny. But the Internal Revenue Service (IRS) Market Segment Specialization Program (MSSP) is changing all of that. And according to many CPAs, it's important for small businesses to understand just how.

Established several years ago, the MSSP goal is to develop highly-trained auditors who concentrate on particular market segments and who can resolve audits more expeditiously. A market segment may be defined by an industry such as construction or entertainment, professions such as architects or attorneys, or a tax issue like the rehabilitation tax credit.

As a result of intensive training, today's IRS auditors are more likely to come to the examination table armed with information that can help them address common tax issues that come up in a particular industry or profession. In fact, you should expect that a well-trained auditor examining a specific business will be aware of that business's typical expenses, operating procedures, and potential for unreported income.

Audit Technique Guides

The development of Audit Technique Guides (ATGs) is an integral component of the MSSP. These industry-specific manuals contain a gold mine of information - everything from the history of an industry to a glossary of its terminology and typical business practices. Want to know how many animals are treated by veterinarians in the United States? According to the ATG for veterinary medicine, vets treat about 52 million dogs, 55 million cats, 11.7 million birds, and more than 7 million other domestic animals annually. If you think you'd like to join the ranks of doctors of veterinary medicine, the guide points out that there are 27 colleges of veterinary medicine with approximately 2,100 graduates every year.

In addition to background information, the guides prepare auditors to conduct more efficient and productive audits. For example, the ATG for the barber and beauty salon industry, one of the many cash-intensive businesses covered by the guides, provides a list of 45 possible questions for auditors to ask salon owners - and that's just in the initial interview. With this new-found expertise, you can expect audit questions to be more focused and less likely to resemble the old fishing expedition characteristic of audits conducted years ago.

Audit Technique Guides are currently available for more than 50 industries with additional guides in the formation stage. You'll find ATGs for used-car dealerships, artists' galleries, the bail bond industry, ministers, and the tour bus industry, among others.

A Wealth of Industry Information

ATGs provide a wealth of practical information as well as interesting reading. The Audit Technique Guide for espresso vendors, for example, contains a complete history of the industry dating back to when Seattle first became known as "Latte Land." Auditors attempting to locate non-filing mobile espresso vendors are advised to consult municipal health departments, which typically issue permits and licenses to sidewalk food vendors, or to research newspaper and magazine articles on the subject for the names of vendors operating in a particular area.

If you operate a pizzeria, you might be interested in knowing that an auditor who is trying to verify your business's sales and income can refer to the Audit Technique Guides for the pizza industry. It provides an elaborate formula that makes it possible to determine the number of pizzas sold based on information secured from suppliers, such as the quantities of specific ingredients you purchased and the number of pizza boxes you ordered.

Are you running a bed and breakfast inn? If so, the IRS can check to see that the cost of your own bacon and eggs isn't included in the food expenses you deduct from your business. And you can be sure that IRS auditors know to look for unreported income from reservation cancellation fees, surcharges for pets, and other income in addition to the usual per-night rates.

Make The Most of These Valuable Resources

Although Audit Technique Guides were designed for IRS auditors, small business owners can read and learn from them. The guides enable taxpayers to become more knowledgeable about what the IRS identifies as key issues for various industries and professions. Knowing in advance what can trigger an audit and what auditors look for can help you better comply with tax law. Many of the ATGs are posted on the IRS Web site: http://www.irs.gov.

If an ATG doesn't exist yet for your industry or profession, reviewing guides for similar industries can be useful. Bear in mind that since the guides are written for tax auditors, it is possible that you may find them somewhat complicated and confusing. If you find sections of the guides difficult to understand because of the technical nature of the information, you may want to consult with your CPA.