Thursday, June 17, 2010


I believe there is nothing wrong or unethical with a tax preparer telling a client that becoming an S-corporation will reduce one’s chance of an audit.

Saying to a client, “A business organized as a sub-chapter S corporation is less likely to be audited than one organized as a regular C corporation or a sole proprietorship” is apparently merely making a statement of fact, the proof of which is readily available to the public in published IRS statistics.

I do, however, believe that tax decisions should be made based on tax law and not on potential audit risk, that organizing one’s small business as a sub-chapter S corporation is not the best option in many if not most cases, and that advising a client to organize one’s business as a sub-chapter S corporation for no other reason than to avoid an audit is terrible tax advice.

If a tax preparer is going to tell a client that a sub-S corporation has less of a chance of being audited he/she also has the obligation to tell the client that becoming a sub-S corporation, or a regular C corporation, involves substantially much more paperwork, filing requirements, expense and agita then becoming an LLC taxed as the default entity, and can have the potential for substantial additional tax at termination or, in the case of a sub-S, reclassification to a C corporation.

A good tax professional will review all the entity options available to the client, and apply the pros and cons of each option to the specific business operation and tax situation of the client. While audit potential may be a consideration in the overall decision, it is an extremely minor one.

I have always said that “an IRS audit is not something that should be avoided at all costs. Tax returns should be prepared, and decisions about choosing a business entity should be made, in such a manner as to generate the absolute least amount of federal, state and local taxes (income and payroll) within the parameters of federal and state laws. If you will pay less tax (income and payroll), fees and other costs by filing a Schedule C you should do so, honestly and ethically, and not worry about being audited. If your return is prepared correctly, and you document all items of income and deduction properly upfront, then an audit is nothing more than an inconvenience.”

I have also said -

I believe it is bad advice to tell ALL taxpayers who have a Schedule C business to incorporate. There is no tax advice that applies to all businesses in all situations (except don’t cheat). The decision to incorporate a business requires careful review of all the specific facts and circumstances of the individual situation. And taxes are not the only consideration.”



Stacie Clifford Kitts said...

Hi Robert.
Like the post.
I can't agree more. Besides, if the first thing a client is asking is the odds of getting audited, I'm thinking - what are you up too. You might want to stay away from a client who puts a lot of emphasis on the odds of the IRS looking over their stuff.

Robert D Flach said...


Right you are!

As I have said, tax decisions should be made based on tax law and the specific facts and circumstances of the client's situation - and not audit potential.