Reviewing income tax returns for accuracy is valuable because it can avoid processing delays, prevent errors that would cause audits and trigger penalties. There is a second potentially more valuable reason to review a tax return. and uncover opportunities for tax planning to reduce tax burdens in the future.
Many accountants, including myself, offer a review service separate from the actual return preparation. In the role of accountant/adviser to small businesses, there is likely nothing more important than reading the prior year’s tax return to give an understanding of the financial state of the business and the positions of its owner(s). I accepted one business client last year without reviewing the tax return and that turned out to be a mistake I regret.
The process is similar regardless of the tax return preparation method used. The tips at the end of this article are adapted from guidance for UltraTax, a Thomson Reuters product. This is because I need to learn this program for a new assignment. Other tax software programs have similar routines but perhaps different terminology and layout.
IRS sends notice CP05 when they are reviewing a tax return to verify:
The income reported
The income tax withholding amounts
The claims for tax credits
The withholding claimed on your Social Security benefits
The household help
The Schedule C income
IRS will holding your refund until they finish your review.
Business tax return review
Barry Warner CPA published an article titled “How to Review Your Business Tax Return“. The date of publication is not available. Warner suggests that business owners find the tax return more difficult to understand than the financial statements partly because of the Schedule M reconciliation of “book to tax”. Start with the financial statements and trace the financial statement income to Schedule M. Then look at the adjustments to financial statement income on the Schedule M. Trace each one; some like travel and depreciation are easy to understand. Others items like adjustments from cash based to accrual based reporting may not be so easy to understand. I recall that the CPA exam placed heavy emphasis on this topic. Finally, Warner suggests looking at each major transaction that occurred in the business over the past year and consider how each was reported on the tax return. Finally, you should have an understanding and agreement with any controversial positions taken on the tax return. If anything is not clear, ask the tax preparer for more information.
Book about tax return review
Edward Mendlowitz, CPA and Andrew Mendlowitz have a book on the topic titled “How to Review Tax Returns”. The first 31 pages are available online. It is expensive but am likely to purchase the book based on Mr. Mendlowitz’ outstanding reputation for publishing useful materials within the New Jersey accounting community. Separately, and not available online, Mendlowitz has distributed checklists including checklists for income tax review, to members of the New Jersey Society of Certified Public Accountants.
Using UltaTax for reviews
First, the software has built-in tools and features help you ensure that the returns you prepare are accurate as you enter data initially.
Ensuring accuracy as you prepare returns
The Tax Subject Index provides information about where to enter specific information in input screens and forms. This helps provide data relationship information.
Tick marks, whether electronic or on paper, enable you to visually identify information at various stages of the completion process.
Field notes enable you to leave notes that provide details about the information entered (or not entered) in a particular field. This could be used for a question or a planning idea.
Client notes enable you to leave private notes that pertain to a specific client. You can attach text to a form if you want to add a note about what influenced your decisions or calculations.
To help prevent data input omissions, if you entered information in a field in the prior-year, but did not enter information for that field in the current-year, the software marks these fields with blue chevrons to alert you of data that may be missing.
Watch fields enable you to monitor important values on a client’s tax forms. You can view these values in the Watch tab of the federal Diagnostics window. You can freeze the Watch tab in the federal Diagnostics window to make changes to watched fields easier to track.
If you enabled notifications for overruled data, UltraTax CS displays red chevrons on input screen fields where you have entered your own amount and overwritten the transferred value. You can right-click those fields and either acknowledge the overruled amount or delete the overrule and revert to the original transferred value that UltraTax CS entered.
Reviewing completed returns
The Return Summary displays summary information for key amounts on the return. You can use this feature to confirm that the return meets your overall expectations.
UltraTax CS provides diagnostic messages that warn you of incorrect data that you need to correct and/or additional information that you need to enter. In some cases the return cannot be e-filed until errors are addressed.