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How to Prevent an IRS Audit of Your Business

NEW YORK ( TheStreet) -- Tax season may be over, but it's never too early to take precautions against an audit.

The Internal Revenue Service defines an audit as a "review/examination of an organization's or individual's accounts and financial information to ensure information is being reported correctly, according to the tax laws, to verify the amount of tax reported is accurate," according to the IRS website.

Audits can be held via mail, while others are conducted at a local IRS office or at a business's location, the agency says.

Over the past decade, the IRS has increased its exams of corporations with fewer than $10 million in assets. For the 2011 fiscal year, the IRS examined 1.02%, or 19,697, of small corporations' tax returns. That marked the highest level of small business audits in the past 10 years, according to IRS data. (In 2004, for instance, just 0.32%, or 7,294, of small corporations' returns were examined.)

Audits of individual returns have also been increasing. For the 2011 fiscal year, 1.11%, or 1.5 million, of individual returns were examined, flat from the prior year but up from 1.03%, or 1.4 million, in 2009.

While the percentage of individual and small corporation audits remains below large company audits (last year, 17.64% of companies with more than $10 million assets were examined), the actual number of small companies examined is higher. Last year, just 10,459 large companies were audited, compared with the 19,697 small businesses audited by the IRS.

Steven Aldrich, CEO of accounting software company Outright, says in general, the IRS has upped its enforcement and as a result small businesses should be prepared if they receive notice. ( Go Daddy announced on Wednesday that it acquired Outright.)

Aldrich shared more details on how to prevent an audit and what to do if it happens to your business.

Why are small businesses prone to audits?

Aldrich: Small business owners are less likely to have their data all lined up. The IRS uses formulas to figure out if a return looks like a standard return.

You need to have your data set and most small business owners don't put enough time to both tracking their expenses and keeping business expenses separate from personal. That's a key flag for the IRS. Second, you don't always remember to track all of your revenue. They might accidentally report net revenue where the IRS is looking for gross revenue. Those types of things would be potential flags for the IRS.
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