205 ⎸ Protecting Your Clients from Audits with Ex-Irs Auditor Adrian Lopez

Hey ambitious bookkeepers!

I just had one of the most eye-opening conversations of my career, and I'm still buzzing with excitement about sharing it with you.

Last week, I sat down with Adrian Lopez, a former IRS revenue agent who literally just left the service last month to start his own CPA practice. For two and a half years, Adrian was on the other side of the table - the one conducting audits, making adjustments, and deciding whether your clients get hit with penalties.

And let me tell you, what he shared completely changed how I think about audit preparation.

Listen here or on your favorite podcast player, or watch the video version on YouTube >>

Now let's dive into some highlights!

The Real Audit Triggers (Spoiler: It's Not What You Think)

Let's bust some myths right off the bat. Filing an extension? Not an audit trigger. Being an S-Corp? Nope. Having a large refund? Not necessarily.

Here's what Adrian says actually catches the IRS's attention:

Unreported Income: Missing 1099s are easy pickings for auditors. The IRS already has these documents, so when they don't appear on your return, it's an obvious red flag.

Disproportionate Expenses: When your tax line item is huge but your wages are minimal, that raises questions. Often this happens when businesses include sales tax in gross receipts but back it out incorrectly.

Financial Status Mismatches: This one surprised me. The IRS looks at your ability to fund your lifestyle. If you're living in a $500,000 house with mortgage payments, property taxes, and insurance, but your Schedule C shows zero profit, they're going to ask: "Where's the money coming from?"

Industry Targeting: Construction contractors and real estate investors are getting extra attention, and for good reason.

The Algorithm Behind Audit Selection

Adrian explained the DIF score system (Discriminant Function System) - essentially, the IRS has algorithms that compare your return to others in your industry and zip code. If something seems off compared to the benchmarks, you might get flagged for human review.

It's not a perfect system, but it's designed to catch outliers. Sometimes returns get flagged even when there's nothing wrong, but sometimes it catches genuine issues.

Real Estate Professional Status: The New Audit Magnet

This was probably the most sobering part of our conversation. Adrian shared that he's given people "bankruptcy inducing" tax bills because they incorrectly claimed real estate professional status.

The typical scenario: A high-earning professional (like a doctor) whose spouse stays home or works part-time, owns several rental properties managed by a property management company, and claims real estate professional status to take massive depreciation deductions against their W-2 income.

The problem? The rules are strict:

• You must spend more than 50% of your working time in real estate activities
• You must meet specific hour requirements
• Managing a few rental properties remotely doesn't usually qualify

Adrian's advice? If you're considering cost segregation studies or claiming real estate professional status, get a second opinion from a qualified professional who specializes in these rules. Don't let the cost segregation company tell you what you can deduct - they're selling a service, not providing tax advice.

Construction Contractors: Cash and Complexity

Construction contractors face unique challenges that make them audit targets. Adrian noted that the successful contractors he audited had invested in professional systems - good CRM software, project management tools, and professional bookkeeping.

The ones that struggled? Often it was about unreported cash income. Adrian shared a story about a contractor who received cash payments and then claimed to donate that cash to his church for tax deductions. When the numbers didn't add up and proper documentation was missing, it became a problem.

What Makes Audits Come Back Clean

Despite Adrian's thoroughness (he rarely had audits with no adjustments), some businesses handled the process much better than others. The common factors among the successful ones:

• Up-to-date QuickBooks with bank reconciliations that matched the balance sheet
• Proper documentation for everything
• Professional bookkeeping systems
• Clear paper trails
• Ability to explain their business processes

The Importance of Professional Systems

One thing that struck me throughout our conversation was how much professional systems matter. Whether it's a restaurant with a good POS system that tracks everything properly, or a construction company with professional project management software, the businesses that invested in proper systems fared much better.

This reinforces what I've always told my clients - good bookkeeping isn't just about organization, it's your first line of defense against problems down the road.

Red Flags for Tax Preparers

Adrian also shared insights about the IRS's crackdown on problematic tax preparers. They can and will shut off your EFIN (Electronic Filing Identification Number) if you're not compliant. This can happen if you're delinquent on your own taxes, not cooperating with investigations, or filing fraudulent returns.

The takeaway? If you see something suspicious from another preparer, report it. The IRS does follow up on these complaints, especially when they receive multiple reports about the same preparer.

The Golden Standard: Making a Revenue Agent's Day

"You will make a revenue agent's day when you're like, dude, here's everything you asked for," Adrian told me, and I could hear the genuine appreciation in his voice.

Here's exactly what he wants to see:

Clean, Reconciled Books That Actually Tie Out

• P&L and balance sheet tie to the tax return
• Bank reconciliations match the balance sheet
• AP/AR schedules are current and accurate
• No super stale items hanging around

Immediate Access to Supporting Documentation

• Invoices available instantly (Adrian mentioned OneDrive as a great tool)
• Receipts organized and accessible
• Canceled checks if requested
• POS system sales summaries that tie to your P&L

Clear Separation of Business and Personal This was huge. Adrian emphasized that clean separation of business and personal expenses is "super, super awesome to see."

When you have all this ready? "That's a way to get a no change audit. Serious."

The Real Truth About Commingling

Now here's where it gets interesting. We've all had clients who occasionally mix personal and business expenses, and I was dying to know what really happens during an audit.

Adrian's answer surprised me: "I have seen some commingling and looked the other way and just let it go because it was immaterial."

He gave me a specific example: A business with $2 million in gross receipts and $400K in profit. If there's $200-400 in personal expenses mixed in? "Am I gonna really make an audit adjustment over that? It's not worth my time."

But don't get too comfortable. Here's what happens with more significant commingling:

• Personal expenses get denied as deductions
• C-Corps might get hit with dividend treatment on the personal return
• You're looking at both corporate denial AND personal tax consequences

The takeaway? Keep it clean, but small mistakes won't destroy your world.

The Quota Myth (And What Really Drives Audits)

I had to ask about quotas - are revenue agents expected to collect a certain amount?

"Believe it or not, I was not allowed to have a quota," Adrian explained. "There was no number of dollars per hour that I was required to get. They're actually not even allowed to do that. It's in federal statute."

Instead, it's about materiality and efficient use of resources. Why spend time on a $2,500 adjustment when there's a $100,000 case waiting?

This completely shifted my perspective on audit strategy. It's not about hiding from the IRS - it's about showing them you're organized, compliant, and not worth their limited time and resources.

The Professional Responsibility Wake-Up Call

Here's the story that gave me chills: Adrian audited a Mexican restaurant where literally nothing on the balance sheet tied to the P&L. Nothing.

When he asked the preparer what happened, the response was: "Oh, my bad. I don't even have the original work papers."

The business owners had signed the return without reviewing it, trusting their professional completely.

When they requested penalty abatement, claiming reliance on a professional, the IRS denied it. Why? Because they admitted they never reviewed the return, never asked questions, just signed and paid.

This is a wake-up call for all of us. Whether you're a bookkeeper or working with tax preparers, we need to encourage our clients to:

• Review returns before signing
• Understand book-to-tax differences
• Ask questions about anything that doesn't make sense
• Take ownership of their financial statements

What This Means for Your Practice

After this conversation, I'm implementing some immediate changes:

1. Audit-Ready Documentation: Every client gets organized with the mindset that they could be audited tomorrow
2. Return Reviews: I'm encouraging all my clients to have their bookkeeper review tax returns before signing
3. Client Education: Teaching clients to be their own best advocates
4. Professional Communication: Adrian mentioned that lack of responsiveness is a huge client complaint - we need to prioritize communication

Moving Forward

Adrian left the IRS to start his own practice, bringing with him invaluable insights about what the IRS looks for and how to keep clients compliant. His experience reminds us that while audits can seem scary, they're often about education and compliance rather than punishment.

The key is being proactive: maintain good records, understand the rules, work with qualified professionals, and don't cut corners on documentation. As Adrian put it, "the burden of proof is always on the taxpayer," so make sure you can back up everything on your return.

Whether you're a bookkeeper, accountant, or business owner, this inside perspective on IRS audits should reinforce the importance of doing things right from the start. Good systems, proper documentation, and professional guidance aren't just nice to have - they're essential for staying out of trouble.

Remember, you get what you pay for when it comes to professional services. As Adrian noted, there are trade-offs in life - you can have fast, cheap, or quality, but you can't have all three. When it comes to your taxes and financial records, quality should always win.

The Bottom Line

The IRS isn't some scary monster trying to shake down honest taxpayers. They're professionals doing a job, working with limited resources, focused on material issues.

Your best defense isn't hiding or hoping you won't get audited. It's being so organized, so clean, and so prepared that an audit becomes a non-event.

As Adrian put it: "Give the revenue agent what he asked for, explain it to him, let him know what he needs. Bank recs tied to the bank statement, which ties to the balance sheet. You're getting off good."

That's the standard we should all be aiming for.

Connect with Adrian

Want to connect with Adrian Lopez? He just launched his virtual tax and accounting practice and is taking clients nationwide. You can find him on LinkedIn - he's pretty much the only Adrian Lopez CPA out there, so he's easy to find!

Connect with The Ambitious Bookkeeper®

🌐 Website: ambitiousbookkeeper.com

👩‍💻 Blog: ambitiousbookkeeper.com/blog

📱 Instagram: instagram.com/ambitiousbookkeeper

📱 Facebook: Facebook.com/serenashoupcpa

💼 LinkedIn: Linkedin.com/in/SerenaShoup

For experienced bookkeepers & accountants:

Learn how to start your bookkeeping business in The Bookkeeping Business Accelerator® >>

Grab my FREE Start your Bookkeeping Biz Checklist >>

Grab my FREE New Client Onboarding Templates >>

For new bookkeepers:

Learn the fundamental accounting skills in Katie Ferro's Become a Bookkeeper >>

For online course creators:

Become a client at my firm, Of Course Financial >>

AFFILIATE DISCLAIMER

We participate in affiliate marketing programs, which means we may earn a commission from purchases made through the links on our blog. However, our recommendations are based on our own research and expertise, and your trust is our priority.