From the first time you file with the IRS, or Infernal Revenue Service as PennyDad affectionately refers to them, you dread the letter that greets you with the news of an audit.
While there are many things that can trigger an audit, let me tell you what caused mine.
In 2007, Bill and I had yet to discover the benefits of couponing and living a more frugal lifestyle. As a matter of fact, we were on the brink of financial ruin but did not realize it. (Hindsight is always perfect!) We were moving credit card balances around and getting cash advances to pay for other bills, to cover business expenses or to purchase whims of the moment. We took a trip to Chicago (for business) that we could not afford. We even got a personal line of credit in order to consolidate our credit card debts only to run the cards back up. (Consolidation is never a good idea in my book!)
So, tax time rolls around and we did everything we thought we were supposed to do. Each receipt was painstakingly recorded. We did not take anything or claim anything we should not have, as far as we knew. However, we failed to mention our loans. If it ever occurred to me to mention it on our taxes, I probably thought that the IRS would find a way to tax us on it and skipped that part of the form. I honestly do not remember.
When some computer in a dusty government office rolled our numbers together and they saw that our expenses were way past what our income was, an audit was triggered. They want to know from where the extra income came and why we did not pay taxes on it.
And, for the record, loan proceeds are not taxable income. Wish I had paid attention to that in 2007.
Moving on…
In my ignorance, I thought the main focus of our audit would be making sure we had receipts for everything we claimed and I was so proud when everything matched up. I thought the auditor would walk in, sit down, see my numbers and say goodbye. HA! After seven hours, she did not even say “goodbye” but “see you in two weeks!” Why?
BANK STATEMENTS!!!
Who knew they would be so important?
In 2007, Bill and I were so in the hole that we deposited everything. Cash. Checks. Gifts. Spare Change. Ebay sales. Yard sale profits. Donations. EVERYTHING. Well, guess what? The first thing the IRS does after conducting a short interview with you is look at your bank statements. Any deposits that you make are considered your INCOME and unless they can be verified as nontaxable, you will pay tax on them.
Deposits that are nontaxable include:
- Loans
- Transfers from other personal accounts or credit cards
- Gifts
- Reimbursements
- And a HUGE list found HERE.
Unfortunately, we did not keep track of what was what because I just assumed that was what a W-2 and a 1099 were for. So, when the auditor proclaimed that we had over $39 THOUSAND in unclaimed income, I almost passed out. WHAT? Where could that have come from because I certainly did not see it! I told her to look around. “Does it look like we have an extra $39,000?”
She was kind and patient but what it boiled down to was that all those balance transfer checks we made payable to cash, a personal line of credit draft, deposits for Pampered Chef parties (that were directly deducted from my account by The Pampered Chef) and many more tiny deposits all added up.
That brings on step two… “Because of the discrepancies in 2007, we must open up your file for 2008.” UGH!
So, for weeks, the auditor and I trudged through the muckety-muck of past bank statements. I contacted every person who might have given us money during those two years and asked for copies of cancelled checks. I went day by day until cross-eyed comparing what was not shredded from our debt statements, comparing the withdrawals and cash advance checks to our deposit detail. I tried to draw a parallel between birthdays, holidays and special occasions with any deposits which might have been gifts. It was NOT easy.
The outcome? We owed nothing. NOTHING!! (All glory and honor be to God our Father for His great mercy and having the auditor look upon us with favor!)
Through the entire process I learned a TON that I want to share with you. The best way to be prepared for an audit is to do your taxes correctly the FIRST time and then keep all of your records for seven years. Tomorrow, I will begin breaking down what you need to know when you begin your annual tax time routine.
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