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Due diligence is an essential aspect of preparing a tax return. It’s more than just a good practice; it’s an ethical requirement to protect yourself and your client from the hefty penalties and liabilities. But tax due diligence is complex and requires a great degree of care, including checking the information of a customer to ensure it’s accurate.
A thorough review of the tax records is vital to the success of an M&A deal. It can aid a company negotiate a fair price, and also reduce the cost of integration post-deal. Furthermore, it helps to identify issues with compliance that could impact the structure of the deal and its valuation.
A recent IRS ruling, for instance it stressed the importance studying documents to justify entertainment expense claims. Rev. Rul. 80-266 provides that “a taxpayer’s tax preparer doesn’t meet the general requirement of due diligence merely by reviewing the taxpayer’s organizer and confirming that all of the expense and income entries are accurately recorded in the document supporting the taxpayer’s claim.”
Also, it’s crucial to check the requirements for reporting for both foreign and domestic organizations. IRS and other tax authorities are increasingly scrutinizing these areas. It is also important to analyze a company’s performance in the marketplace and observe trends that could affect the financial performance metrics and valuation. If, for instance a petroleum retailer was selling at an overpriced margin within the industry the performance metrics of its business could fall when the market returns to normal pricing. Tax due diligence can prevent these unexpected surprises, and give the buyer the confidence that the transaction is going to succeed.
