Year-End Strategies to Minimize Audit Risk

Safeguarding Your Business from Unnecessary Audit Woes 

As businesses close their books for the year, ensuring compliance and minimizing the risk of a Bureau of Internal Revenue (BIR) audit becomes essential. While no taxpayer can be completely audit-proof, understanding the updated audit framework and maintaining proper documentation can significantly reduce potential exposures. This article summarizes key points from the latest guidelines and year-end strategies highlighted in our recent briefing. 

Understanding the Basis of BIR Audits 

With the issuance of RMO 1-2026, the BIR introduced revised policies and stricter procedures for tax audit and assessment following the lifting of the audit suspension under RMC 107-2025. Key highlights include: 

• Clear distinction between Electronic Letters of Authority (eLA), Mission Orders, and Tax Verification Notices (TVN). 

• Single-instance audit framework—one eLA per taxable year covering all taxes. 

• Mandatory consolidation of pending eLAs starting March 4, 2026, unless no consolidation is formally requested. 

• Implementation of an anonymized selection process for audit assignments. 

  
  

Who Gets Audited? Audit Selection Criteria 

The BIR uses specific benchmarks to identify “priority cases” for audits. These include: 

• Drastic drops in sales or VAT payments. 

• Income tax due amounting to less than 2% of gross sales. 

• VAT-registered taxpayers with excessive input tax claims (over 75% of output tax). 

• Businesses with large year-on-year asset increases but reporting net losses. 

• Entities have not been audited in the last five years. 

• Taxpayers claim losses due to calamities or inventory write-offs. 

• Companies with substantial intercompany transactions or shared expenses.

Meanwhile, TVNs cover cases such as tax refund claims, VAT refunds, and requests for credit certificates. 

Common Financial Statement Exposures 

Year-end FS line items often trigger audit findings. Key areas include: 

1. Accounts Receivable 

• Adequate provisions for doubtful accounts 

• Proper documentation for write-offs 

  
  

2. Inventory 

• Compliance with RMC 8-2023 and RMC 57-2015 

• Proper maintenance of the Book of Inventories 

• Timely submission of beginning and ending inventories within prescribed deadlines 

3. Investments & Real Properties 

• Correct classification as ordinary vs. capital assets 

• Correct tax treatment upon sale (VAT/IT vs. CGT)  

  
  

4. PPE 

• Awareness of P100M threshold for the reduced 20% corporate tax  

(RMC 62-2021) 

• Ensuring that non-land assets are appropriately documented  

  
  

5. Advances & Loans 

• Exposure to Documentary Stamp Tax (DST) 

• Clear terms on interest and repayment 

Income Statement Areas to Monitor 

Revenue 

• Reconcile FS revenue with VAT or Percentage Tax returns. 

• Ensure consistency with Income Tax Returns (ITR). 

• Maintain proper support for zero-rated sales and Form 2307s.

  
  

Returns, Allowances & Discounts 

• Discounts must be properly shown on invoices. 

• Ensure compliance for special discounts (SC/PWD, athletes, students, etc.).  

  
  

Personnel Costs 

• Ensure accurate reconciliation between FS, ITR, 1601C, and alphalists. 

• Identify items not subject to withholding. 

  
  

Rent, Security, and Manpower Costs 

• Validate DST exposure on leases. 

• Distinguish between manpower agency fees vs. security agency fees (withholding differences). 

  
  

Depreciation 

• Maintain proof of acquisition for assets. 

• Follow the P2.4M threshold for vehicle depreciation. 

• Remember: yachts, aircraft, and luxury vehicles are non-depreciable unless used for transport operations.  

  
  

Expenses with Limits 

• Donations: subject to 5–10% limits unless given to PCNC-accredited NGOs. 

• Representation: subject to 0.5% or 1% limit depending on business type. 

• Interest expense: reduced by 20% of any interest income subject to final tax. 

• Bad debts: must show evidence of collection efforts. 

• Retirement benefits: deductible only with approved BIR plans and actual payments.  

  
  

Deductibility Rules: Ordinary & Necessary 

Under Section 34 of the Tax Code, expenses must be: 

Ordinary – common, accepted, and typical for the business. 

Necessary – appropriate and helpful, contributing to income generation. 

Substantiated – supported by valid receipts and documentation. 

RMC 81-2025 reinforces that taxpayers carry the burden of proof when claiming deductions. 

Additional Year-End Best Practices 

• Conduct an internal tax mapping to assess compliance with readiness. 

• Consider Optional Standard Deduction (if applicable). 

• Verify if you are a Top Withholding Agent. 

• Use appropriate account titles for financial reporting. 

• Distinguish realized vs. unrealized income and expenses. 

• Ensure proper documentation for professional fees and related withholding tax. 

  
  

In a Nutshell 

You may not eliminate audit risk, but staying informed and maintaining compliant, well-documented records can significantly reduce exposure. With updated audit rules and increased scrutiny, now is the best time to revisit internal controls and ensure your year-end closing is both accurate and audit ready.  

Email: consult@aab.partners 

Website: thinktankoutsourcing.com 

Phone Number: +639611871515 

Source: https://tinyurl.com/AFSwithThinktankpdf