A look behind the dreaded IRS audit

Mitchell Hartman Apr 8, 2011

A look behind the dreaded IRS audit

Mitchell Hartman Apr 8, 2011

Tess Vigeland: If you freak out at tax time because you’re worried about an audit, that’s understandable, especially these days. Last year, The Man audited more than one and a half million individual returns. That’s an 11 percent increase over the previous year and twice as many as a decade ago. So just how bad is the audit experience?

We put that question to Marketplace’s Mitchell Hartman and he proudly told us he had no such stories to share. But he found one or two folks who did.

“Rocky” movie theme

Mitchell Hartman: If there were one of those “Rocky” movies about duking it out with the IRS, Joe Kalka might get to raise those gloves over his head and jump into the ring.

Joe Kalka: I have respect for the IRS, don’t get me wrong. But I don’t have fear, because I keep good records, and I don’t cheat.

Kalka’s been audited by the IRS four, maybe five times — and it’s not ’cause he’s unlucky. When he was young, he admits he played fast and loose at tax time.

Kalka: So I distinctly remember at 22 years old, you get your W-2, just make as many deductions as you can. The first time I was audited, I just really did not have good records. It wasn’t pretty. And that for sure was a terrifying experience.

Kalka says each time the IRS has gone after him since, he’s actually gotten better. He brags about it.

Kalka: I bought a BMW 320i — a real hot car in 1983. It was a $17,000 car and I wrote off 60 percent of it, owned it for two weeks.

Kalka’s 54. He lives in a gated community in Dallas, grows wine grapes out back as a hobby. He’s an entrepreneur with real estate and printing businesses so his returns are complicated. His home office is tax central.

Kalka: I can account for almost every penny that comes through my household, and, of course, through my business.

Sound of file cabinet opening

Kalka: You know, I just have 12 months for personal, 12 months for business, this is current year.

Kalka’s an audit-fighting machine. He keeps every single receipt, so he can even prove he spent a few cents for sales tax on a stapler at Office Depot — and then deduct it.

Michael Schaffer: If you put it on your tax return, you need to be able to document it, period.

That’s CPA Michael Schaffer of tax firm R.W. Ramsay in Minneapolis. He used to be an auditor. He says Kalka’s nailed one important rule: Keep exhaustive records. But he thinks Kalka opened himself up to a sucker punch with his DIY approach, taking on the auditor alone.

Schaffer: We want our clients to interact with the auditor as little as possible — not even in the room and most cases not even in the building.

Self-serving, maybe — CPAs charge thousands for representation in an audit. But, Schaffer insists you really don’t want to go one-on-one-especially in a field audit. That’s where the revenue agent comes to your home or business, to see if your fancy new kitchen, for instance, fits that earned income tax credit, or the designer desk chairs in your office say, “Business losing money here.”

And, Schaffer says, with government so strapped for cash, there’s little mercy.

Schaffer: Previously, we’d seen auditors that were a little bit more willing to play with the gray edges of audit, realizing that tax payers don’t always have all of their ducks in a row.

Of course, sometimes the ducks are decoys. When he was auditing, Schaffer nailed a guy who tried to deduct his entire family vacation, because he talked about business once over dinner.

Oh, and if you’re one of those people who “guestimates” on your return — maybe even low-balling to stay under the IRS’s radar — don’t bother, says tax payer representative Matt Bannon.

Matt Bannon: So, for example, if you have a small business deduction for travel of $831, it’s a problem if your documents substantiate $900.

Hartman: Well, yeah, but why is the auditor going to care?

Bannon: Because if that number doesn’t match, what else doesn’t match?

Even if every dime is accounted for, an audit can be frightening.

Daniel Ziskin is 47, a scientist at the University of Colorado. He went into an audit in 2005 ready to defend his deductions for medical costs, charitable donations and home depreciation. He explained to the auditor that a tenant was living rent-free in his house and doing odd jobs in exchange. They even had a contract.

Daniel Ziskin: She looked at it and she said, “Oh, so I see that this was an employee of yours.” And I got really nervous at that point. Having an employee could be big trouble, because I wasn’t withholding Social Security, I wasn’t checking for immigration status.

Ziskin realized fighting for the deduction opened him up to far more liability — so he ponied up $1,500 more dollars and let it drop.

Ziskin: The time and effort getting every last deduction is probably not well spent.

Another tax payer down for the count.

Then again, there are still bruisers out there like Joe Kalka. He’s already thinking about next year’s deductions. Last time he got into it with an auditor, he was so good out there, he actually got his tax bill got reduced by $5,000.

I’m Mitchell Hartman for Marketplace Money.

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