This article covers the areas of concern that IRS auditors have when examining a company’s tax records. It lists some of the things businesses do when they attempt to avoid paying income taxes.

Many companies have their books audited annually by an outside firm. This type of audit is designed to look for proper accounting practices and to make sure that no one is stealing from the company. For a publicly held company, this is a way to assure the stockholders that all is well within the company’s financial records.

However, when the auditors step in from the IRS, the goal is somewhat different. IRS auditors really do not care about GAAP (Generally Accepted Accounting Practices) or embezzlement. These might be addressed for other reasons, but the IRS really is looking for tax evasion. These auditors look for several common practices that companies have used over the years to avoid paying income taxes.

Hidden Assets and Funds

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Companies have to pay taxes on profits. While stockholders like to see profits to receive dividends and stock appreciation, some companies do not want to appear too profitable. If they can hide a portion of their net income, they will pay less taxes. When you are dealing with a tax bill in the hundreds of thousands up to millions of dollars, hiding a portion of the profits can result in a huge savings for the company. Some companies will hide cash, and others will hide assets that are convertible to cash. The IRS pours over the books looking for overstated expenses and understated income to find this type of money if it is hidden.

Skimming

In smaller companies that are sole proprietorships and partnerships or family controlled corporations, skimming can be a problem. Unlike hiding assets, skimming happens when the small business owner or owners remove money (usually cash) before it can be recorded as income. In service related business, this is extremely easy because there is no inventory to track. If the repair or service is never noted on the records, it appears as if it never happened. Therefore, the money is taken by the owners for personal use.

The IRS usually finds this type of activity by auditing the owners personal records, also. If the amount of funds passing through the owner’s bank account exceeds what his salary and draw amount to, skimming is likely to have occurred. If the owners are smart enough to keep the funds from their personal checking account, the IRS auditors will look at the lifestyle of the owner. If the owners income is insufficient to support the lifestyle, skimming is the likely reason.

Purchasing Personal Items and Showing Them as a Company Expense

By inspecting the type of items purchased for the business, an IRS auditor will try to determine if all purchases were for legitimate business items. Small business owners have often been caught purchasing extravagant items for themselves with company funds. One way this is discovered is by the IRS auditor asking to see the item. If it is a large plasma television mounted on the wall of the owner’s living room, it can be a problem.

Fake Payments to Non-Existing Vendors

This is a way that some companies hide assets. All expenses will be documented with receipts. However, the auditors will attempt to locate the company to verify that this business is a customer. The company may not exist, or it may have never sold anything to the company being audited. This is the type of checking that normally happens after the IRS starts to see some evidence of other improprieties.