Hidden Costs Home improvement contractors who have gone through the process say that the taxes and penalties they’ve paid as a result of being audited pale beside other costs the audits exacted on their companies and staffs. Several times during the 1990s, for instance, the IRS investigated American Home Design’s hiring practices. Each audit, which took two or three weeks to complete, cost the company $7,000 in accounting fees and untold thousands more in time spent by staff gathering information to prepare for the audits. Don Van Cura, who owns Van Cura Construction, in Chicago, couldn’t even calculate the costs for the full day it took his employees to load boxes of files onto trucks for delivery to his accountant’s office, where the state’s audit would be conducted. Van Cura says the accountant billed him $3,000 for the audit, which found his company owed back taxes on the out-of-state purchase of $1,000 worth of tools.

Archadeck of Charlotte, N.C., a $4.5 million franchise that does about 1,000 jobs per year, endured a five-month-long IRS compliance audit seven years ago, which was triggered because Archadeck was the only company sending 1099s to one of its subs, “and [the IRS] assumed we were their only employer,” recalls owner Barry Klemons. The audit dragged on, he claims, because the auditor couldn’t grasp the concept of a contractor being a franchise and kept requesting more documentation. Klemons found himself relying heavily on his accountant, to whom he signed over his power of attorney. At the end of the process, the auditor said that if the IRS ruled in Archadeck’s favor, it would issue a letter stating that the Service couldn’t audit the business again for those years. “I’ve got that letter in my vault,” Klemons says.

Proper Etiquette Klemons also says he bit his tongue at times to keep from lashing out at the auditor’s handling of his compliance audit or challenging her methods. The proper etiquette, he learned, requires a business owner to “be polite, and only answer questions that are asked.” (And letting an audit take its course can sometimes be worth it: Two years ago auditors found that Archadeck had overpaid the state of North Carolina by several thousand dollars in sales and use taxes for lumber it had purchased from yards in other states, where Archadeck does more than 15% of its installations.)

That’s not to say contractors can’t minimize the impact of an audit on their operations. Michael and Linda Holmes run Creative Carpentry from their house, and managed to get the state to agree to examine their company’s records in the office of their accountant. “The more of this you can have done offsite, the better,” Linda says. Sutton, a former bank examiner, said that he put auditors in a room adjacent to his office, and instructed them that he was the only person they should ask questions of “because I didn’t want my employees being tied up with this.”

Sutton says he’s been generally impressed with the caliber of agents he has come into contact with. The IRS audited his company several years ago after an attorney representing one of his former partners contacted the Service and claimed that Sutton Siding’s books weren’t kosher.

“The IRS agents stayed a week, and found nothing other than a roof we’d installed to test new materials. The agents showed us how we needed to report this and it cost us a couple hundred dollars in taxes.” That audit was a relative breeze compared to another several years earlier during which Sutton banged heads with an agent “who thought she was Dick Tracy” and presented Sutton Siding with a huge tax bill. Sutton got that ruling reversed in tax court. “The tax court auditor asked, ‘Why are you even here?’ ” Sutton recalls, with evident satisfaction.