Surviving an audit (or, how we saved $30k on grad school with our taxes)

1:22 PM James 0 Comments



Audit Begins


I remember how it felt getting the letter. It said we were being audited by the IRS for our 2013 taxes. I knew there was a small chance this would happen - that’s why I purchased Audit Defense when I did our taxes. I knew deducting business school expenses, while 100% legal, is not without controversy. (If you’re not careful, you can easily mess this up.) The letter got my attention, and my wife was worried, but I was fairly certain I was right about deducting $37k in business school expenses that year, a total of close to $110k in deductions for a tax savings of around $30k at the 28% bracket. But despite my self-righteousness, getting that letter made me nervous.


So did the second letter. It came with a big packet of our 2013 returns, with cryptic notes in all capital letter Courier typewriter font, very old-school government. Also included was a letter saying they would be looking at our 2012 and 2014 returns for the same reason.


I’d called the IRS after receiving the first letter and spoke to an agent who was handling our case. I gave her some background over the phone of why I made the deduction, and she acted like she understood. That was the conversation where I mentioned the other years. That’s why we got the other letters. The hardest thing about being audited by the IRS is that you feel like they don’t listen to you. At least not in the way I wanted. Instead of resolving the issue, my explanation only opened us up for more questioning. When this happened, my wife and I started to worry.


In all, we received about 9 letters from the IRS, and the process took about a year, but we eventually prevailed. This is our story.

Disclaimer: I'm not a tax or financial professional. This blog is for entertainment only. Please consult a professional for your own situation.


Audit Defense


After getting the fat scary second letter, I dug up my TaxAct receipt and called their Audit Defense line. My initial phone call with them was reassuring, as they quickly put me in touch with a firm called TAD (Tax Audit Defense) where they contracted the audit defense work. I got assigned an account for my case, and she asked me to send over our my tax documentation, as well as a signed IRS Power Of Attorney form that authorized her to handle the IRS correspondence for you. I later sent over all the receipts and business school documentation I had.


The most reassuring thing I learned when talking with the TAD accountant was how long the process could take, and how both sides could drag it out. Audits don’t resolve quickly. Be prepared for about a year-long effort. Not unlike pay-per-view boxing matches, audits are a drawn-out drama of both parties dancing around, with, and toward each other. When I would ask my accountant how long something would take, she’d usually say something like “the IRS has 90 days to respond to our correspondence. Set your calendar and feel free to follow up with me in a couple months.”


So we gave things a few months.


The IRS’s response left much to be desired. Basically, their response said they disagreed with all the evidence I provided that my deductions were legit. However, they didn’t say why. What’s more, they were now sending me more fat packets of tax records and documentation saying what I supposedly did wrong. This documentation looked almost exactly identical to what they’d sent me months before. What had they been doing all these months?


When I followed up with my TAD account, she said something like “it’s an unsatisfying response, but we still have options. We can start to discuss settling.”


Sidenote: They Also Cared About Our Other Itemized Deductions


I’m focusing on my MBA expenses, but the audit also challenged our other itemized deductions. Fortunately, about 70% of these had electronic receipts, but the rest were paper, and I couldn’t find them all, so I had about 5% of our charitable gifts that were undocumented. We ended up paying this 5% back to the IRS. Not a huge deal, more annoying than anything. Advice you already know: save your receipts and make them easy to retrieve in case you need them. For electronic receipts, make tags in Gmail for each tax year, and tag them when you get them. For paper receipts, take photos and stick them in Google Drive or Google Photos with tags in the description.


Now let’s get back to the big picture...


Why Settle?


Settling? Why settle when I was right? (You should know something about me: I’m kind of self-righteous when I know I’m right. Certain people say that can make me annoying at times.) I asked my TAD accountant what kind of settlement is typical for these cases. “25-45% is what I’d guess. We can go for 25% and see what the IRS says.” I told her I needed some time to think about it, and we agreed to catch up later.


Then I called the IRS myself. When the agent picked up, I explained to her how my documentation supported my side, and I asked her why they disagreed. Surprisingly, she couldn’t say anything specific. I then got a bit more stern and asked her how she could ask me to pay so much money, when she couldn’t explain why? I mentioned the tax court cases which the IRS lost to individuals like myself, who did nothing but take legal deductions. I told her confidently that I have a very strong case against the IRS.


This put her on a spot a bit, which she didn’t appreciate, (not as much of an offense as being audited, I’d say!) but she did tell me what I could do. This didn’t involve shoving anything anywhere, but rather submitting all justification, including relevant court cases, via fax, to her office. I hadn’t heard this from my TAD accountant before, so after speaking with my agent, I called my accountant and told her about the conversation. What I didn’t realize was that in contacting the IRS directly, I had somehow breached the agreement with TAD, and they were no longer “obligated” to work my case. (I had only paid $40 each time I filed, and they had already worked for several hours on my behalf, so they were probably losing money already.)


So, in about 6 months, here’s what I’d accomplished:
  1. I’d gotten us fired by my TAD accountant.
  2. I’d gotten an IRS agent upset with me.
  3. We were still under audit, for more money than we originally were.
  4. My wife was a bit upset about all of this.


The only good thing about this? I knew I was right, and I now was my chance to prove it.


Putting It Together Myself


Before I went any further, we sent checks to the IRS for the amounts they were asking for. We didn’t have to, but if we did end up losing, the IRS was going to charge us 10% APR interest, and we weren’t making that much in our savings account (only about 1% APR). This reduced our stress. My wife counted the money gone, and figured that if we won (ha! IF?), it’d be a nice bonus. Then, I got to work making sure we would win.


Now that the audit was in my hands, I compiled our proof. It consisted of:


  1. Relevant court cases
    1. Allemeier
    2. Nursing one
    3. Technology one
  2. UCLA Anderson seminar on Deducting Your MBA
  3. Receipts from UCLA Anderson (my actual business school expenses)
  4. Documentation from my previous company
    1. My position before MBA (electronic design engineer)
    2. My promotion letter (to Sr. electronic design engineer) during MBA
    3. Comparison of the duties of both positions
    4. Letter from my manager at the time saying this was true, on company letterhead
    5. Letter from HR saying this was true, on company letterhead


These took some work to put together.


First of all, if you are starting on the MBA path, get this documentation together before you file your taxes for your first year of school. I wish I’d done this, and I wish UCLA Anderson had told us to do this. To make things complicated, I’d changed companies during business school, so I had to chase down my former manager and HR department and woo them to help me. (Fortunately, I was on great terms with them. Don’t burn bridges when you quit! Even though I was sooo done with my job, I stayed on positive terms with everyone.) I’m super-grateful to the people who went to bat for me when I needed them. If you’re reading this, THANK YOU!


If you’re on an MBA path, learn how to show key people you care about them. Take them out to lunch, send them friendly emails, and like their social media posts. You’ve spent untold hours building great relationships with your colleagues! Keep tending these relationships after one of you leaves. It feels good, it makes them feel good, and it keeps the circle of friendship going.


Second, if you’re a UCLA Anderson student, DEFINITELY TAKE THE SEMINAR on Deducting Your MBA. The video and PowerPoint archives are valuable references. If you’re not an Anderson MBA, Google the court decisions on the above cases. Get law journal analyses as well as the original text of the decisions. They’re on your side.


Phoning It In (In More Ways Than One)


The reason for this section title is twofold:
  1. You HAVE to literally fax all your paperwork to the IRS. No email. No bulk upload. Nope, these folks are old-school.
  2. Customer service at the IRS can be, let me say, inauthentic.


Before I faxed in my documentation, I called my agent and let her know I had 135 pages to send. I made many MANY attempts to send the fax, with frustrating results. I got hung up on (their fax timed out), and I had trouble getting confirmation that everything sent properly. I did get an angry phone call from my agent saying “there are papers coming out non-stop and we can’t get any other faxes and it’s all your fault and you’d better stop it!!!!!” So, this didn’t work. I asked her what I should do. She then said “mail everything to the office or bring it over yourself.” And then she hung up on me. True story.


What I ended up doing was even less convenient: printing everything out, packaging it up, driving to the nearest IRS office, going through security because it’s a federal building, and dropping it off at the IRS office. Strangely, that also got me an angry phone call from my agent, because apparently I hadn’t given it to the right person, even though I did what she asked. She actually refused to look at the documentation for that reason! So I asked for her supervisor’s phone number, called him, and calmly explained what happened. He talked to her, and she eventually did review everything I sent.


Lesson learned: be patient. Audits aren’t designed to be convenient. And IRS agents are not your friendly Zappos customer service staff.


Positive Changes


The next letter we got from the IRS said they were reviewing our documentation. It also included a fat package of the same documents, but with slightly different calculations. They’d actually reduced the amount they said we owed BEFORE REVIEWING OUR DOCUMENTATION! I figured this was a good sign already.


Around 3 months later, we got another packet from the IRS, without much fanfare, just the same type of cover letter saying this was the new amount we owed. However, we saw it was written not by our agent, but the Regional Director. What could that mean?


When we looked at the amount, IT WAS BASICALLY ZERO! They’d agreed with us on all the MBA documentation, minus one year when they proved I had partial tuition reimbursement. But they basically said that the $15k we paid to prevent interest from accruing was ours to keep! The only question was, how did we get it back? But that was a riddle for another day. For the time being, I ran over and showed my wife, and we celebrated.


Getting our money back was pretty complicated. The IRS agent had instructed us to pay on the IRS website, but the electronic receipts didn’t have any reference to our audit case. We didn’t know if our refunds would get lost in the ether, so I called the IRS customer helpline. After waiting on hold for over an hour on 3 separate occasions, I Googled around and found a special line for tax preparers. (This probably was for accountants, but hey, I prepared my own taxes, so I figured why not?) This time, the wait was less than 5 minutes! I talked to an extremely helpful person, and they confirmed that our refunds were coming. Just wait 2 more months.


Payment Received


About 2 months later, I got two beautiful checks in the mail:





VICTORY!


Paying It Forward


While I was going through the audit process, I reached out to the UCLA Anderson faculty and staff who originally presented the seminar on Deducting Your MBA. They were quite interested in my experience, and even introduced me to a couple of other students who were going through the same thing. I shared my advice over the phone and email, and I hope things worked out well for them.


I’ve been meaning to blog about this for a while now. According to some internet statistic, 150k students get MBAs each year. I have no idea how many of them take all the deductions they’re entitled to, but if I can help even a small fraction of them, I’ll be happy. Not every student is eligible for these deductions - certainly not career switchers - but career ENHANCERS almost certainly are. So, if you’re looking to stay in the same general career field, but increase your impact or broaden your role with an MBA, definitely give this deduction a shot.


The Tax Code [Insert Other Main Sections From The Seminar]


[Insert the tax code]


[Insert the potential savings]


[Insert examples of what kind of students are a good fit for the deductions]


[Insert a timeline of what to do, when, to make sure you get the deduction and win any audit]


[Not Used] Sidenote: Prepare To Be Frustrated

Audit letters can be confusing. Their documentation requires a lot of re-reading to understand what they think you did wrong. Communicating with the IRS isn’t like most conversations you have with coworkers. The closest thing I experienced before this was trying to get a refund from Sprint because of poor cell service, during the store return period but after a conflicting documented return period. (This actually happened twice with Sprint - get it together, Sprint!) It’s also kind of like fighting a parking ticket in LA, where you can be right, but they’re not going to change their mind. (Both organizations have a perverse incentive to seek victory instead of the truth, because both organizations are self-funded by collections.)

0 comments: