An audit can be a time-consuming process. While you cannot avoid a tax audit, you can minimize your risk of an audit by avoiding potential flags on their tax return. The most frequent IRS audits are caused by inconsistencies or errors in your tax return that raise red flags in the eyes of the IRS.
When you work with Milikowsky Tax Law, you get more than an experienced tax litigation attorney. You get an experienced business and tax advisor who can work with you to reduce your chances of being audited, with our comprehensive tax return assessment system and years of business experience.
California’s Top IRS Audit Attorney
Our leading tax litigation attorney, John Milikowsky, has decades of experience representing countless businesses in legal tax matters. Mr. Milikowsky is dedicated to relentlessly defending his clients in everything from state and federal tax audits to criminal tax investigations. As a full-service tax law firm, we frequently work with business owners to empower owners to identify issues on their own tax returns. While there is no way to guarantee you will avoid a tax audit, we can teach you to significantly minimize your risk of an audit.
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Milikowsky Tax Law Defends Businesses in IRS Audits
When you’re faced with the formidable presence of a tax audit, don’t panic. Reach out to Milikowsky Tax Law, and we will protect your company to keep your business in business. Our skilled tax litigation attorneys will protect your rights every step of the way.
Whether you’ve just received a letter from the IRS, or you need help analyzing your legal rights and financial data reported on your tax returns, contact us today. The team at Milikowsky Tax Law is here to help.
San Diego Tax Attorney – Your Relentless Advocate in IRS Audits
Business owners may not be sure where to start if IRS audits their company. However, an IRS audit doesn’t have to overwhelm your life or impede your ability to conduct business. With the experienced team at Milikwosky Tax Law, you can navigate the process of an IRS audit secure in the knowledge that your tax attorneys are advocating for you every day.
There is little to no margin for error during an audit, a tight timetable, and potentially severe consequences for a poorly handled interaction with IRS. Unlike CPAs who do not have attorney-client privilege, attorneys are able to speak with your IRS officer on your behalf without risk of subpoena or summons of records discussed. A qualified attorney can, review your documents with an expert eye, create the right strategy for you, represent you or your business, and provide valuable advice and guidance.
If you receive a letter from IRS confirming your business tax return has been selected for examination, review your return and identify the items that will likely be investigated so you can be prepared. Then, before communicating with IRS, reach out to an experienced IRS audit attorney. Having a game plan is critical. You want to be honest and prepared when speaking with your IRS revenue agent.
Anytime you file taxes, there is a chance that your tax return might be audited by the Internal Revenue Service (IRS). The agency conducts standard procedures to find any errors or discrepancies among taxpayers. The audit process is meticulous and, should you find yourself under the scrutiny of IRS, will require detailed information from you.
In the article below, you’ll learn about the audit process and frequently asked questions surrounding IRS audits.
Why was I selected for an IRS Audit?
There are different reasons you may be flagged for IRS audits. Some are due to random checks; however, you have a low chance of being audited this way. Most taxpayers have less than a 0.6% chance of receiving a random audit check.
IRS runs tax returns through its Discriminant Information Function (DIF) system to continually update their database and make sure they are tracking industry benchmarks for each industry and tax bracket.
The DIF system also checks for incorrect tax filing information. Any discrepancies in tax forms, such as an imbalance of tax returns, a discrepancy between reported earnings and employer filings, or unreported cash transactions by one member of a transactional party, will trigger DIF to send your return to an IRS audit officer.
People are more susceptible to an audit if they:
- Earn less than $25,000 or more than $500,000
- File incorrect or incomplete returns
- Have large numbers of cash transactions
- Claim a disproportionate number of deductions
- Are self-employed
- Have a home-based business
- Have a cash business
- Have foreign assets
Sometimes you can be audited as a result of your business partners or investors going through an audit.
How Will I Know If I am Selected for an Audit?
You will know if you are selected for an audit if you receive a verified letter in the mail from IRS. They do not call to notify you about your audit.
What Do I Do If I’m selected for an Audit?
If you or your business are selected for an audit, make sure you read all of the information sent to you in your audit notification letter. The letter and accompanying information request packet will notify you as to what entity is being audited (business or personal) what year(s) are under review and who your auditor is. Once you know what IRS needs, make sure you collect all of the records and supporting documentation requested (but nothing additional). You will need to submit records from banks, vendors, and businesses you have worked with, invoices and pay stubs, payroll records, and medical expenses among other information.
Should I Hire an IRS Tax Attorney to Help Me?
We suggest contacting a qualified tax attorney to help guide you through your audit, to ensure you are timely, responsive, compliant, and do not unintentionally increase the scope of your audit to other areas of your business or personal finances that would otherwise remain unscrutinized.. There is little to no margin for error during an audit, a tight timetable, and potentially severe consequences to a poorly handled interaction with IRS. Unlike CPAs who do not have attorney-client privilege, attorneys are able to speak with your IRS officer on your behalf without risk of subpoena or summons of records discussed. A qualified attorney can, review your documents with an expert eye, create the right strategy for you, represent you or your business, and provide valuable advice and guidance.
How long do I have to reply to an IRS audit?
You have 30 days to reply to the initial audit letter. Do not hesitate, and make sure you take the appropriate steps early on. IRS is not likely to provide extensions unless you have a good reason. Your attorney can help by advocating for more time with the IRS agent. A good attorney will know many of your local IRS auditors and have strong relationships built on well-structured prior cases and mutual respect.
How Long Do Audits Take?
The time it takes to conduct an audit depends on the case. It fluctuates depending on:
- The seriousness of the tax reporting error
- When and whether the right information is provided to IRS
- Communication between the person being audited and IRS officer
How Many Years of Tax Returns Can IRS audit?
IRS audits tax returns from the past three years; however, most are from the past two years. Only when IRS agents find discrepancies within the audit they are conducting do they dig for information older than three years. Most audits do not look for information past six years. Though in cases of criminal audits IRS can look back 9 years and longer.
If you or someone you know received an audit letter from IRS, reach out to our expert team at Milikowsky Tax Law. We have over a decade of experience working with IRS and tax audits and are experts in defending business owners in the face of IRS or other government agency audits.
Purchase Price Allocation and Form 8594: Why Buyers and Sellers Need to Agree
The purchase agreement gets signed. The number both sides agreed to is right there on the first page. Then the CPAs on each side start asking how that number breaks down across the assets being sold, and the deal that felt finished suddenly has one more negotiation left in it.
Purchase price allocation doesn’t usually come up in the early conversations about a business sale. It shows up later, sometimes not until the accountants are preparing Form 8594, and by then the buyer and seller may already have conflicting incentives that neither side raised during negotiation.
What Is Purchase Price Allocation?
When a business is sold as an asset sale, or as a stock sale treated as an asset sale under a Section 338(h)(10) election, the total purchase price has to be allocated across the individual assets being acquired. Cash, accounts receivable, inventory, equipment, real property, intangibles, and goodwill each get assigned a portion of the total price.
That allocation isn’t a formality. It determines how much depreciation and amortization the buyer can claim going forward, and it determines how the seller’s gain gets characterized for tax purposes, whether as ordinary income, capital gain, or depreciation recapture.
Both parties are required to allocate the purchase price using the same method, the residual method under IRC Section 1060, and both are required to report that allocation to the IRS using Form 8594.
Why Does the IRS Require Form 8594?
Form 8594, the Asset Acquisition Statement, is filed by both the buyer and the seller in the year of the sale. Each party reports how the purchase price was allocated across seven asset classes.
The IRS uses these filings to check for consistency. Buyer and seller are legally required to use the same allocation, and if the two filings don’t match, that mismatch is a straightforward audit trigger. It tells the IRS that one party reported an allocation that benefits them without regard to what the other party reported, which raises the question of which figure, if either, reflects the actual agreement.
This is one of the more mechanical audit triggers in a business sale. It doesn’t require aggressive positions on either side, just a purchase agreement that didn’t nail down the allocation clearly enough for both CPAs to file the same numbers.
How Does the Residual Method Allocate Purchase Price?
The residual method assigns value to assets in a specific order, working through seven classes defined under Section 1060.
Class I covers cash and cash equivalents. Class II covers actively traded personal property, including certificates of deposit and foreign currency. Class III covers accounts receivable and other debt instruments. Class IV covers inventory. Class V covers all other tangible assets not described in the other classes, which typically includes equipment, furniture, and real property. Class VI covers Section 197 intangibles other than goodwill and going concern value, things like customer lists, non-compete agreements, and trademarks. Class VII covers goodwill and going concern value.
The allocation works by exhausting each class’s fair market value before moving to the next. Whatever purchase price remains after Classes I through VI are fully accounted for gets allocated to Class VII, goodwill. This is why goodwill is often described as a residual figure. It’s whatever value the deal represents beyond the identifiable, separately valued assets.
Why Do Buyer and Seller Incentives Conflict on Allocation?
This is where purchase price allocation stops being a mechanical exercise and becomes a negotiation.
Buyers generally prefer more of the purchase price allocated to Class V and Class VI assets, equipment, and intangibles like customer lists or non-compete agreements, because those assets can be depreciated or amortized relatively quickly. Equipment depreciation and Section 197 intangible amortization both create deductions the buyer can use against future income.
Sellers generally prefer more of the purchase price allocated to goodwill, taxed at capital gains rates, rather than to inventory or equipment, where gain can be taxed as ordinary income or trigger depreciation recapture. A seller who has fully depreciated a piece of equipment, for example, faces ordinary income treatment on the recapture portion of any amount allocated to that asset, which is a meaningfully different outcome than the same dollar amount allocated to goodwill.
These aren’t marginal differences. On a mid-sized transaction, shifting a meaningful portion of the purchase price between asset classes can change both parties’ tax liability by a significant amount, which is exactly why this negotiation deserves attention earlier than it typically gets it.
What Is Personal Goodwill and Why Does It Come Up in C-Corp Sales?
In transactions involving a C corporation, allocation sometimes includes a separate category: personal goodwill, meaning goodwill attributable to the individual owner’s relationships, reputation, or expertise rather than the corporation itself.
The distinction matters because personal goodwill, when it can be substantiated, may be sold directly by the individual rather than by the corporation, which can avoid a layer of tax that would otherwise apply at the corporate level before proceeds are distributed to the shareholder. This is a fact-intensive area that depends heavily on the specifics of the business, the owner’s role, and how the relationships in question actually function. It’s worth raising early with a tax advisor rather than after the purchase agreement is drafted, since the structure needed to support a personal goodwill allocation typically has to be built into the deal itself.
When Should Purchase Price Allocation Be Negotiated?
The allocation conversation works best when it happens during the letter of intent or purchase agreement drafting stage, not after closing when the accountants sit down to prepare Form 8594.
Waiting until after closing to negotiate allocation puts both CPAs in a difficult position. The deal is done, the incentives haven’t changed, and now there’s pressure to reach an agreement quickly so both returns can be filed. That’s a worse environment for a fair negotiation than the period before the purchase agreement is signed, when allocation can still be built into the deal terms directly.
Including a specific allocation schedule, or at minimum an agreed methodology, in the purchase agreement itself is the most reliable way to avoid a mismatch. Some agreements attach a full Section 1060 schedule as an exhibit. Others simply commit both parties to a joint allocation process within a set number of days after closing. Either approach is stronger than leaving it unaddressed and hoping both sides land on the same numbers independently.
What Should CPAs Flag for Clients During a Sale?
For CPAs advising a client on either side of a business sale, purchase price allocation is one of the higher-leverage conversations to have early, precisely because it’s often overlooked until it’s harder to negotiate.
On the sell side, that means modeling out the tax impact of different allocation scenarios before agreeing to a purchase price, since the effective after-tax proceeds can vary meaningfully depending on how the price breaks down across asset classes. On the buy side, it means understanding what depreciation and amortization schedule a given allocation would produce, and whether that schedule actually reflects how the assets will be used going forward.
In both cases, flagging the Form 8594 consistency requirement early, and making sure the client understands that the other side’s CPA will be filing a matching form, tends to prevent the mismatch that draws IRS attention in the first place.
Where This Leaves Buyers and Sellers
Purchase price allocation is one of the few places in a business sale where the buyer’s and seller’s interests are directly opposed, dollar for dollar, in a way that’s easy to overlook when everyone is focused on agreeing to the headline purchase price.
Getting to that number is only part of the deal. How it breaks down across asset classes determines what each side actually keeps after taxes, and it determines whether both parties’ filings match closely enough to avoid becoming their own audit trigger.
This is one piece of a larger picture that shapes nearly every California business sale. For the full breakdown of successor liability, tax clearance certificates, and what IRS, EDD, and CDTFA look for during a sale, see our complete guide to selling your business without triggering an audit.
Frequently Asked Questions
What is Form 8594 used for? Form 8594, the Asset Acquisition Statement, is filed by both the buyer and seller in an applicable asset acquisition to report how the purchase price was allocated across seven asset classes defined under IRC Section 1060. Both parties are required to use consistent figures.
What happens if the buyer and seller report different allocations on Form 8594? A mismatch between the buyer’s and seller’s filings is a straightforward audit trigger, since it signals that the two parties either didn’t agree on an allocation or reported figures that don’t reflect the actual transaction.
Why do buyers and sellers disagree on purchase price allocation? Buyers generally benefit from allocating more value to assets that depreciate or amortize quickly, since that creates near-term deductions. Sellers generally benefit from allocating more value to goodwill, which is typically taxed at capital gains rates rather than as ordinary income or depreciation recapture.
When should purchase price allocation be decided in a business sale? Ideally during the letter of intent or purchase agreement stage, before closing. Negotiating allocation after the deal has closed puts both sides under pressure to agree quickly, which is a weaker position for reaching a fair outcome.
What is personal goodwill in a business sale? Personal goodwill refers to value attributable to an individual owner’s relationships, reputation, or expertise, as distinct from goodwill belonging to the corporation itself. It typically comes up in C corporation sales and can affect how proceeds are taxed, but it requires specific facts and planning to substantiate.