What should a company do if it receives a tax audit or accounting adjustment notice from the State Taxation Administration? Do these 7 things before the initial explanation.

Many companies' tax disputes do not begin when they receive a tax penalty.

The real starting point might just be a letter:

• Notice from the State Taxation Administration to request additional documents;
• Adjustment notice;
• Proof is required;
• Please explain the transaction process;

Alternatively, notify the company's responsible person and financial personnel to be present for questioning.

At first glance, it might seem like simply: "Just hand over the documents."

However, for businesses, what information they provide the first time, how they explain the transaction, who answers the questions, and whether the accounting information is consistent with the actual business process often directly affect how the IRS understands the entire case later.

Therefore, after receiving a tax audit notice, the first question a company should ask itself is not: "Should we fight back against the IRS?"

Instead:What exactly is the IRS investigating right now?What are the true facts of the company's transactions?What accounts and documents can prove this fact?as well as:Is this currently just a tax investigation, or has it already potentially involved penalties or even criminal risks?

First step: Read the notice first, don't try to guess what the IRS wants to ask.

After receiving the document, please confirm the following:

• Notifying authorities;
• Person in charge;
• Tax item;
• year;
• The period during which information is requested;
• Specified period;
• Required documents;

Is the presence of the person in charge or a specific person required?

For example, the same phrase could be: "The IRS is auditing the accounts."

They might actually be investigating:

• Business tax input invoice;
• Operating income tax costs and expenses;
• Withholding;
• Income earned overseas;
• Related-party transactions;
• Income recognition;
• Shareholder transactions;
• A specific invoice;

Or a specific trading partner.

If a company submits years of accounting records and a large amount of data directly to the IRS without even confirming the real issues, it is easy to lose focus of the case later.

When it comes to specific notifications, you can start from...Tax lawyers, IRS audits and administrative remediesFrom this perspective, confirm the scope of this procedure and the data.

II. Can the State Taxation Administration legally require a company to provide accounting books and documents?

Can.

according to"Tax Collection LawArticle 30 states that tax collection authorities may, in order to investigate taxation data, conduct investigations with relevant authorities, organizations, or individuals in accordance with the law. The following points should be noted:

• Account books;
• Documents;

Other relevant documents may also be provided to taxpayers to their office for inquiries.

Therefore, the company cannot simply dismiss it as "internal company information."

They completely rejected legitimate investigations.

However, the same law also clearly requires:Investigations must not exceed the scope necessary for the purpose of taxation.Therefore, the correct approach is neither to refuse the investigation nor to hand over all company information indiscriminately.

Instead, confirm first:

• What does the IRS require?
• Why do we need this information?

Which documents actually correspond to the items being investigated?

3. If I receive a transfer notice, can I just ask the accountant to send all the documents over?

Some simple cases may be handled by accounting staff through normal procedures.

But if the case has already occurred:

• Significant amounts;
• Multi-year transactions;
• Related companies;
• Overseas transactions;
• High costs and expenses;
• Dispute over the source of invoices;
• Shareholder transactions;
• Cash transaction;
• Questions about the authenticity of the transaction;

If the company's responsible person may be involved, then it cannot be treated as a regular replacement part.

Because what the IRS really wants to understand is probably not: "How it's recorded in the books."

Instead:What actually happened in this deal?Accounting entries are only one part of it.

Further comparison is needed:

• contract;
• Order;
• bill;
• Shipment;
• acceptance;
• Payment;
• Bank cash flow;
• Email;
• Internal company approval;

Board of Directors or other decision-making materials.

When corporate decisions and original transactions are involved, they should also be clarified together.Company business and transaction disputes.

IV. Before the company's initial explanation, a "Transaction Flowchart" should be prepared.

For example, the IRS is investigating a company for paying $10 million in consulting fees.

Don't just prepare: invoices.

The complete transaction should be organized as follows:

1. Why is this service needed?
2. Who chooses the trading partner?
3. What kind of contract did both parties sign?
4. What services are actually provided?
5. Who in the company conducts the inspection?
6. How to issue an invoice?
7. How should an accountant record this information?
8. Where should the funds be transferred?
9. What were the company's final results?

If the line itself is complete, the case is relatively easy to explain.

if:

• The contract is written as A;
• Write B on the invoice;
• Accounting entry C;

If the actual payment is D, the reason should be found out before the first formal explanation.

V. Does the IRS really investigate the "accounts" or the "substance of the transaction"?

The real issue in many tax disputes is ultimately:Does the account name match the actual transaction?For example, the account might state:

• Consulting fees;
• commission;
• Marketing expenses;
• Service fee;
• loan;
• Shareholder transactions;
• Purchasing goods;
• loss;

bad debt.

But what really needs to be determined in taxation is: whether there was a real transaction?

Is the service actually provided?

Is this expense related to the company's operations?

Is the recipient of the payment the actual counterparty in the transaction?

Which year does the income belong to?

Is there any related-party transaction involved?

Is there any capital repatriation? If the funds involve transactions between the company and its shareholders, this should also be clarified.How to handle situations where the State Taxation Administration discovers shareholder transactions or other receivables?.

so:Accounting entries are not the end of the case.We need to get back to the real business facts.

Sixth, the biggest fear when explaining for the first time is that "everyone is telling the truth, but the pieces don't fit together."

Cases involving large enterprises are common:

• The company representative gave one version;
• The finance manager gave another version;
• Accountants only know the accounting entry methods;
• The business is aware of the transaction process;

External accountants are familiar with the reporting process.

It's possible that no one intentionally misspoke.

However, if the information is different from each other, the IRS may end up seeing contradictions.

Therefore, it is best to establish the following before giving a formal reply:

Fact Timeline

When did this happen?

Personnel Roles

Whoever makes the decision, executes it, and records the transaction.

Document Comparison

Are the contracts, invoices, payments, and ledgers consistent?

Legal issues

What is the IRS really questioning?

This is not a demand for everyone to "say the same thing".

Instead, ensure that the company's answers are based on:On the same set of real data.

7. Do not guess numbers from memory without any information.

For example, the person in charge might ask, "Was this transaction decided by the chairman?"

Why was this payment made in this way in 2019?

"Is this company related to you?"

If the person involved truly cannot confirm, do not try to guess the answer based on memories from many years ago just to appear cooperative.

In particular, it involves:

• date;
• Amount;
• personnel;
• Equity;
• Reason for payment;

It's best to check the contract details in the documents first.

A more accurate explanation would be: "This part needs to be supplemented after confirming the original data with the company."

It's usually safer to guess an answer only to later discover it contradicts written information.

8. Does the company have any procedural rights before the State Taxation Administration conducts an investigation?

have.

《Taxpayer Rights Protection LawArticle 11 requires that when tax collection authorities investigate evidence, they must, regarding taxpayers:

• favorable;

All unfavorable factors should be noted.

The investigation method must be:

• legitimate;
• necessary;

And adopt methods that minimize the infringement on taxpayers' basic rights.

In principle, the tax collection authority still bears the burden of proof regarding the essential facts required for taxation or punishment in accordance with the law.

Therefore, a tax investigation is not a matter of "the IRS having suspicions, and the company must prove that there are absolutely no problems."

However, taxpayers are still legally obligated to fulfill their obligations to file reports, retain documents, and cooperate with investigations.

Both must be understood together.

9. If the State Taxation Administration notifies the company to be present, can the company hire a lawyer or accountant to accompany them?

According to Article 12 of the Taxpayer Rights Protection Law, in principle, tax authorities should provide written notification before conducting an investigation.

• The grounds for investigation or questioning;

And the scope.

The respondents have the right to:

• Appoint an agent;

Or they may be accompanied by an assistant.

The law also provides protection against making statements or accepting investigations until an agent or assistant is present.

Therefore, if the case already involves:

• Significant amounts;
• Complex accounting;
• Responsibilities of company leaders;
• False vouchers;

Regarding criminal risks, don't wait until after the initial explanation to ask, "Will there be any problems with what I just said?"

10. Can the investigation by the National Taxation Bureau be recorded?

Article 12 of the Taxpayer Rights Protection Law further stipulates that after informing the tax collection authority, the person being investigated may record audio or video on their own, or request the tax collection authority to record audio or video of the on-site investigation process.

Unless there are legitimate reasons under the law for maintaining the confidentiality of the investigation, and as required by law, they shall be recorded.

Whether recording is necessary in a specific case should be determined based on the nature of the investigation and the overall strategy.

The point is not to confront the investigator, but to ensure that important factual statements and the investigation process are clearly documented.

11. Are investigators required to identify themselves?

According to Article 32 of the Tax Collection Law, when tax collection agencies or investigators designated by the Ministry of Finance are performing their duties in accordance with the law, they shall present relevant documents proving their official duties.

If the document is not presented, the law provides otherwise for the person being investigated to refuse to cooperate.

This issue typically doesn't arise from official IRS notices.

But if it happens:

• Arriving unexpectedly;
• On-site investigation;

If the identity or investigative authority is unclear, it should be verified first:

• Personnel identity;
• Investigating authorities;

Scope of the investigation.

12. A complete copy of every document submitted by the company should be retained.

Avoid situations where a company submits original documents to the IRS but fails to keep a record of what was actually submitted.

Recommendation:

Survey Data List

• File name;
• year;
• Number of pages;
• Version;

Delivery date.

Electronic backup

Keep the version delivered on the day of delivery.

Written version

Every message sent is saved.

IRS correspondence

• notify;
• Email;
• Receive mail;
• Replacement parts;

Meeting minutes.

If we really enter this future:

• pay an overdue tax;
• Penalties;
• Re-examination;
• Appeals;

In administrative litigation, these will become the most important procedural timeline of the case.

Thirteen, the worst thing a company can do is start "providing supplementary information" after receiving a tax audit notice.

This does not refer to legally supplementing information that already exists but has not yet been provided.

The real danger is that a file that didn't exist originally is later imaged and was already present at the time of its creation.

For example:

• Backfill the contract date;
• Reissue the acceptance form;
• Redo the board minutes;
• Edit Email;
• Delete LINE;
• Re-make the invoice attachments;

The counterparty in the transaction is required to cooperate in revising the wording.

These actions could escalate what was initially a tax dispute into something much more serious.

• evidence;
• Accounting;

Even criminal issues.

The most important principle after receiving an investigation notice is:Preserve the original data.

Allegations involving falsified books and vouchers should be evaluated separately.Business accounting law, books and vouchers risks.

14. The IRS requires a lot of documents. Can I choose the ones that are most useful to me and submit them?

This is not how it should be handled.

Within the scope of a lawful investigation, the company still has an obligation to cooperate in accordance with the law.

However, if a range is required:

• Unclear;
• Overly broad;

If the connection to this tax matter is unclear, further investigation can be conducted through legal procedures.

• Scope of confirmation;
• During the clarification period;
• Explain why the data does not exist;

Or confirm whether other methods can be used to provide it.

The key point is to respond in accordance with the law, not to deliberately conceal unfavorable information.

That's not the case either: throwing away all the company's documents without any organization whatsoever.

15. If a problem is found, will it always result in "tax payment + fine + criminal liability"?

uncertain.

These three things should be separated.

First level: Tax payment

The core issue is: how much tax should have been paid according to the law.

Second level: Administrative penalties

In addition to objectively violating obligations, further examination of the elements required for punishment is necessary.

Article 16 of the Taxpayer Rights Protection Law stipulates that acts that violate tax obligations are not punishable unless they are committed intentionally or negligently.

so:Deemed to be required to pay additional taxesNot necessarily equals:They must be punished with the same level of penalty.

Third level: Criminal liability

Criminal cases also have higher requirements for the elements of a crime and the proof of the crime.

therefore:

• pay an overdue tax;
• Penalties;

Criminal cases cannot all be lumped together as one thing.

16. Under what circumstances should one start to pay attention to criminal risks?

If the survey content begins to appear:

• Invoices that are not genuine;
• No actual transaction;
• False contracts;
• Capital repatriation;
• Nominee company;
• Off-book income;
• Two sets of accounts;
• Deliberately concealing the proceeds;
• Forging account books;

If the company's responsible person was aware of the involvement, they should have conducted a further evaluation:

• Tax collection law;
• Commercial Accounting Law;
• criminal law;

Even other related criminal liabilities.

At this point, the case can no longer be treated simply as: "The IRS needs to provide additional information."

Tax administrative procedures and criminal risks must be considered simultaneously.

These situations should be assessed simultaneously.Corporate criminal and criminal risks of company executivesInstead of just processing replacement parts.

17. Are the IRS tax audit and the Investigation Bureau search the same thing?

no.

generally:

• Adjusting accounts;
• Replacement parts;
• For inquiries;

They are required to explain that this is part of a tax investigation process.

Criminal searches involve different legal thresholds and judicial procedures.

Article 31 of the Tax Collection Law provides for a system for applying for a search warrant from judicial authorities in accordance with the law for cases involving suspected criminal evasion of income tax and business tax.

Therefore, receiving an adjustment notice does not mean that the company is already involved in a criminal case.

However, if the investigation gradually involves:

• Forgery;
• Fake transactions;
• False vouchers;
• Significant tax evasion;

The possibility of the program escalating should not be ignored.

If the program has been upgradedCompany executives summoned by the investigation bureau or company searchedPreparations for such investigations should be assessed separately from those for general tax investigations.

18. In tax investigations, who is more important, the accountant or the lawyer?

The answer to many major cases is:We need both.Accountants are usually more familiar with:

• declare;
• Accounting;
• Tax calculation;
• Accounting treatment;

Financial report.

The lawyer mainly handles:

• Scope of investigation;
• Legal characterization;
• evidence;
• Administrative procedures;
• Penalty liability;
• Re-examination;
• Appeals;
• Administrative litigation;

And criminal risks.

Truly complex corporate tax cases are not:

• Lawyers are replacing accountants;

No, it's not that accountants replaced lawyers.

Instead, it is:Transaction facts + accounting treatment + legal liabilityThey are placed within the same architecture.

19. If an external accountant says "there's no problem with the accounting," does that mean the company is definitely risk-free?

uncertain.

Professional accounting or tax advice may be material fact and may affect the company and its responsible parties:

• Cognition;
• Duty of care;

Judgment of intentional negligence.

However, confirmation is still required:

• Did the company provide the accountant with complete information?
• Whether the actual transaction matches the information provided;
• How much do accountants actually know?

Professional advice addresses:

• Accounting issues;
• Application issues;

It's still a matter of complete legal procedures.

Therefore, do not say: "The accountant handled it."

This is directly equivalent to: "The company is absolutely legal."

However, we should not overlook the significant evidentiary value that professional opinions may possess.

20. What should I prepare if the IRS requires me to explain related-party transactions?

At least organize:

• The relationship between the two parties in the transaction;
• Equity;
• Directors and officers;
• contract;
• Pricing method;
• Service or product content;
• Payment;
• Performance of obligations;
• Commercial purposes;
• Comparison with similar transactions;

Company internal approval process.

The real question to answer is: Why did this deal happen?

How are these conditions formed?

What does the company get?

What does the other party provide?

It's not enough to simply say, "This is a normal transaction."

21. What should I prepare if the IRS requires me to explain costs and expenses?

Don't just give an invoice.

At least further preparations should be made:

• contract;
• Order;
• Work results;
• Proof of delivery;
• Payment;
• acceptance;
• Internal company needs;
• Relationship with business operations;

Basis for accounting entries.

because:Invoice availableand:Fees can be recognized according to lawThey are not exactly the same problem.

Conversely, the absence of a formal document does not necessarily mean that a real transaction does not exist.

We still need to examine the evidence in its entirety.

22. If asked to explain underreported income, first create an "income timeline".

confirm:

• When will the contract be signed?
• When will the goods be delivered?
• When will the service be completed?
• When will the acceptance be conducted?
• When to issue the invoice;
• When will payment be received?
• When is accounting recognition made?

When to submit the application.

Many income disputes are not about whether the money actually exists.

Instead:During which period should the recognition be made?Therefore, don't just use the bank deposit date to answer all income questions.

23. If the National Taxation Bureau finds any irregularities, should it immediately acknowledge them and pay the outstanding taxes?

It cannot be generalized.

If, after full confirmation by the company, accountant, and lawyer, it is indeed true that:

• Application error;
• Tax differences;

Any matters requiring supplementary tax payment should, of course, be handled in accordance with the law.

But if the dispute truly involves:

• Transaction characterization;
• Cost recognition;
• Income year;
• Related persons;
• Actual performance;

Before applying tax law, it should be confirmed whether the IRS has a complete understanding of the facts.

Don't be afraid that things will escalate.

To acknowledge a legal conclusion that is actually controversial without any analysis.

24. Conversely, don't deny everything either.

If the original data clearly shows:

• There really is a mistake in the accounts;
• There were omissions in the declaration;

When the transaction details were insufficient, the response was always, "The IRS is wrong."

It may not necessarily be a good strategy.

Truly effective tax dispute resolution should break down the issues into:

Undisputed facts

You can confirm first.

Part with room for tax payment

It will be handled in accordance with the law.

Parts with legal disputes

Preserve and present complete evidence.

Penalty

In addition, we will analyze the degree of intentional negligence and responsibility.

Possible criminal aspects

In addition, establish a defensive line.

Don't tie everything together.

25. If you do end up paying back taxes or fines, are the previous explanations still relevant?

Very important.

Because if we need to leave afterwards:

• Re-examination;
• Appeals;

In administrative litigation, the case will be re-examined:

• What information does the National Taxation Bureau possess?
• How the company responded at the time;
• What evidence has been presented?
• Which claims are consistent?

How does the National Taxation Bureau form factual findings?

Therefore, a truly sophisticated approach to tax audit responses should consider the following from the very first explanation:If administrative relief is needed six months from now, will this document still hold up today? If a formal disciplinary action has been received, further confirmation is required.Review, appeal and administrative litigation after receiving supplementary tax or finesDeadlines and procedures.

26. How does Fidelity Law Firm handle corporate tax investigations?

Corporate tax disputes are usually not just about one tax law issue.

A transaction that has been questioned by the IRS may involve the following:

• Commercial contracts;
• bill;
• Bank cash flow;
• Accounting entries;
• Financial statements;
• Related persons;
• Board of Directors;
• Corporate governance;
• Administrative penalties;

Even criminal liability.

When handling corporate tax disputes, Fidelity Law Firm first establishes:

• Scope of investigation;
• Transaction timeline;
• Comparison of accounts with documents;
• Personnel roles;
• Legal issues;

Administrative and criminal risks.

Further decision:

• First explanation;
• Replacement parts;
• Communicate with the State Taxation Administration;
• Follow-up examination;
• Appeals;

How should administrative litigation be handled?

Attorney Li Yusheng previously served as the assistant manager of the legal department at Deloitte Touche Tohmatsu, where he worked extensively with accountants and corporate finance teams on corporate, financial, tax, and legal issues.

The value of this kind of background lies in the fact that it can:Accounts seen by the IRSand:The actual transactions that occur in the enterpriseAnalyze them within the same legal framework.

Normally can be throughCorporate legal counsel and routine tax legal risksManagement ensures the complete flow of company decisions and transaction documents.

Frequently Asked Questions about IRS Audits, Account Adjustments and Inquiries