The IRS has recently announced its intent to seek data records maintained by small businesses that utilize accounting software programs, such as QuickBooks or Peachtree, when the business is the subject of an audit. IRS examiners will be requesting these files in the majority of cases where the taxpayer already uses electronic accounting software to maintain its books and records. The IRS will not accept reports exported to Excel, “condensed” data, or any other data submission other than the accounting software’s backup file, which provides an exact copy of the original books of entry as well as a record on any deletions or modifications.
The IRS has stated that examiners will only review data that is relevant to the year(s) under examination as well as transactions that occur within one month before or one month after this period. The taxpayer may submit condensed data for the years before the time period under examination but may not do so for those which occur after. In the event the taxpayer refuses to submit their electronic accounting software backup files, the IRS may seek a summons requiring the disclosure of this information. Tax practitioners who refuse to submit on behalf of their clients may find themselves in violation of Circular 230. There is an exception from submission for privileged information or information that is protected from disclosure by statute, subject to approval by IRS Counsel.
Although the IRS has stated that it will only review data for the time period that is under examination, taxpayers and practitioners are understandably skeptical of this representation. The IRS has suggested that the individual consider backing up their electronic data annually at the end of each tax year and condensing data from years prior to the audit. However, the IRS has reserved the right to request another backup file which contains data from the condensed period if the scope of the audit is expanded. In any event, the IRS procedure is to notify the taxpayer if the scope of the audit is expanded prior to requesting or reviewing data from additional years not initially under examination.
Going forward, submission of electronic data will likely become the norm when a small business is audited. The IRS is claiming that this change will be advantageous to taxpayers and representatives because they will not have to print large amounts of records or submit numerous individual documents each time they are requested. However, practitioners may see this as an attempt by the IRS to obtain and review information outside the scope of the audit. Doubtless, there will be much deliberation on this issue in the future.