How an IRS Audit Works and What to Expect If the IRS Audits Your Tax Return
An IRS audit can be a scary process. It can be time-consuming and confusing. It can often lead to a bigger tax assessment and potentially a bill you can’t afford. Has the Internal Revenue Service notified you that you have been selected for an audit? Are you worried about being audited? Then, you’re probably wondering what to expect.
To help you out, we’ve created this overview of what to expect with the IRS audit process, and we’ve also put together links so you can learn more. Facing an audit? Want to get help through the process? Then, contact us at the W Tax Group today.
What Is an IRS Audit?
An IRS tax audit is when the Internal Revenue Service tries to confirm the details of your tax return to determine its accuracy. The IRS may send you a letter and ask for proof of some of the claims on your tax return. Then, you will mail in supporting documents. Or the agency may send you a notice that it is auditing your entire return. With a full audit, you generally have to meet with an IRS auditor over the phone or in person.
The IRS can audit any tax return that you file with the agency. For instance, the agency may audit your 1040 individual income tax return or your 1020 corporate income tax return. The IRs may also audit elements of a return such as an employee retention credit (ERC) on a payroll tax return.
What Records Do You Need for an IRS Audit?
The IRS will want to see records and supporting documents to back up every detail on your tax return. This is why the IRS says to keep your records for seven years after you file a tax return. In most cases, you don’t need to include supporting documents when you file your tax return, but you will need to provide those documents if you get selected for an audit.
To give you an example, imagine that the IRS wants to check the mortgage interest you’ve itemized on your individual tax return. To substantiate your claim, you will need to show the IRS the 1098 form from your lender that shows the interest you’ve paid during the year. Or imagine the IRS is doing a full audit of your business tax return. The auditor will want to see proof of all your revenue and expenses. They will likely look at your bookkeeping records. Then, they will want to see supporting documents of the details in your books.
Generally, the IRS auditor will send you an Information Document Request (IDR) with Form 4564. You may receive IDRs for correspondence, desk, and field audits. The IDR outlines the documents that the auditor wants to see, and it’s often one of the first contacts that taxpayers have with auditors.
What Are the Odds of Getting Audited?
Everyone has heard that the chances of getting selected for an audit are against you. It is true that the numbers are low if you look at IRS audit rates on an annual basis. In fact, about one in 75 people will get audited every year.
Statistically speaking this means that about 80% of all people get audited once in their working lifetimes. Other people claim that nearly everyone gets audited at some point — so, it’s important to understand the process.
Who Gets Audited by the IRS?
The statistics are different for differing income levels and types of employment. Generally, people who earn over $1 million and people who report no income are the most likely to get audited. The rates are lower in middle-income ranges. People who claim the Earned Income Tax Credit (EITC) also face very high audit rates. The IRS doublechecks the claims for these credits very closely. However, everyone has a chance of facing an IRS audit. To protect yourself, you need to be ready in case the IRS selects you for a tax return audit.
IRS Income Tax Audit Types, Audit Process & What Audit Representation Means
The IRS Tax Audit Selection Process
When it comes to getting selected for an IRS audit, some returns are randomly selected, but in other cases, the audit selection process is not completely random. People who get selected actually do have a high likelihood of having made an error or a fraudulent claim on their tax returns. The main driving force for determining who gets audited starts with an IRS algorithm. The IRS algorithm will give each tax return a score, the higher the score the higher the potential it has for an audit.
Pretty much what the algorithm does is find individuals with high expenses and low income. It will find that if you reported a low income and a mortgage payment of about the same, it will most likely give a high score because the likelihood of you being able to pay for regular expenses after the mortgage with your income is highly unlikely. After the algorithm gives scores to the tax returns, these tax returns are then passed off to a human representative for checking and typically about 1/10th of these algorithm-suggested audits end up in a real audit after human review.
The IRS also uses a matching system to identify returns that should be audited. For instance, if your employer sends the IRS a W2 and your bank sends a 1099 form for interest earned, the IRS’s matching system will look to see if you have reported the same numbers on your return. If the numbers don’t line up, your return may be selected for an audit.
Types of Returns That Can Be Audited
When most people think of an audit, they think of an income tax audit on individual or corporate tax returns. But these aren’t the only types of audits. The IRS can audit any return that you submit to the agency. This includes payroll tax returns, estate tax returns, gift tax returns, and excise tax returns. Generally, the audit process is very similar. The IRS just wants proof of your claims.
You cannot completely eliminate your risk of being audited, but you can avoid red flags on your income tax return. It’s important to understand what the IRS looks for when reviewing returns for audits. If you can’t avoid audit red flags, you just need to make sure that your return is accurate. You also need to ensure that you have records to back up the claims on your tax return. Then, if you are selected for an audit, you will be able to handle the process more easily.
Looking for other ways to avoid or prevent an audit? Then, you should check out these tips. They outline best practices for filing your tax return if you don’t want to be audited. Again, some audits are random so you cannot completely eliminate the risk, but there are steps you can take to reduce your chances of being audited.
Does Amending a Tax Return Increase Your Risk of an Audit?
The IRS says that amending your return does not increase the risk of an audit, but again, there is always a chance that the agency can audit you. Additionally, the IRS typically checks amended returns by hand. As a result, these returns tend to face greater scrutiny than other returns.
Generally, the first sign that you have been selected for a tax audit will be a notice from the IRS. This can be scary, especially if you don’t know what to expect, but with the right help, you can get through the process. Don’t ignore the notice. You need to take advantage of this time to prepare for your IRS audit.
An audit is the process in which the IRS determines if you have properly reported all income and taken the correct deductions. It is your responsibility to prove to the IRS that what you filed was indeed correct and you must provide supporting documents for the majority of it. The IRS will make a determination if you did the proper reporting or not and if not they will assess you additional taxes to pay.
At times, but rarely, the IRS may find that you overpaid, and the agency will give you a refund but don’t count on it. A quick fact is that the IRS actually wins 80% of all audits, mainly because the taxpayers cannot show proper supporting documents. So mainly the reason for the IRS assessing additional taxes is because of bad record keeping, not because of taxpayers trying to cheat the system.
Types of IRS Audits
There are three different types of tax audits. The types of audits are mainly determined by the amount of revenue you report. These three types of audits are correspondence, office, and field audits. Here is an overview of these three types of audits.
- IRS Correspondence Audit: This is the most common type of audit. This type of audit comes by U.S mail and is conducted via mail. Typically the IRS will ask you to mail certain documentation to support certain items that you reported on your income tax return. Normal transactions that they follow up on are stock transactions, sale of real estate documentation, and details on other specific itemized or business deductions. Often, these types of audits happen because there is a difference in what you sent them when matched with 3rd party documentation they have also received. A good example is that you reported a different amount than what was reported to them on a 1099 form from a company you were paid by.
- IRS Office Audit: The IRS office audit is a meeting set up with the IRS that the IRS determines the time and specific documents that you should bring with you for support. The IRS will send a letter setting a time and date or requests that you call them up to set up an appropriate time. Mainly in these types of audits, the auditors will only examine “significant” items on your income tax return. During the IRS audit, the auditor may ask difficult questions about unlisted items that were on the original letter. Then, you can tell them that you are not ready or are not prepared to talk about those items and they will drop them and bring them up in a second visit. Most of the time, it is good to consult with a licensed tax professional such as a CPA or Tax Attorney so they can provide you with important advice and keep you from making the situation worse.
- IRS Field Audit or Home Audit: This is when you receive a notice that the IRS wants to come to your home or business for an audit. These are typically the most serious types of audits, and the top IRS employees generally handle these types of audits. If you receive one of these audits, most likely you have earned well over $100,000 from your business or self-employment. If you receive one of these audit requests, it is highly suggested that you have some type of licensed tax expert on your side to help with the audit to ensure you are well prepared and answer all questions accurately and as honestly as possible.
How Long Does the IRS Have to Audit You?
The IRS generally goes back three years with audits. If it’s been more than three years since the tax year when you filed a return, the IRS typically won’t look at those returns. However, if the IRS selects a return from a recent tax year for an audit and discovers substantial errors, the agency may go back more years, but typically, the IRS doesn’t go back more than six years.
The amount of time that the IRS has to go back and audit returns is called the statute of limitations. However, there are exceptions. Check out this link to learn when the IRS can go back further in time to audit a tax return.
How Often Can the IRS Audit You?
There is no limit on the number of times that the IRS can audit you. The IRS may even end up auditing several years of your returns at once. Generally, this happens if the IRS notices a significant error when auditing you. Then, the agency will go back and select other returns for review.
The IRS notifies taxpayers about audits through the mail. The IRS will send you a notice if you have been selected for an audit. The notice will explain what you need to do and the steps that you should take. It will also have a deadline, and if you miss it, the auditor can go through your return and make changes as they desire. To avoid this, you need to respond to the audit notice.
The IRS does not initiate audits over the phone or through email. If you get a phone or email notice about an audit, be careful. It may be a scam artist trying to trick you into giving up sensitive information so that they can steal your identity.
Why Does the IRS Do Audits?
The IRS does audits to improve tax compliance. There is a significant tax gap in this country, and audits help to close the gap. The tax reporting system in the United States is voluntary. Most people follow the rules and pay their taxes, but when people don’t pay the right amount of tax, it creates a gap between the revenue the IRS receives and the amount that it should receive. This is called the tax gap.
When people know that they have a risk of being audited, they tend to be more honest on their returns. This helps to keep the tax gap relatively small. At the same time, it saves the IRS time and resources. Spot checking a few returns is a lot easier than hand checking every single return.
Audits are complicated. This is especially true if you are dealing with a full field audit. Luckily, there is help available. You don’t have to deal with the IRS on your own. Instead, a tax attorney can help you communicate with the IRS. They can also defend you if the auditor tries to claim that you didn’t follow the tax law correctly. Check out this resource to learn how to select help for an audit.
An audit lawyer is a lawyer who helps clients through IRS audits. These tax attorneys focus on tax resolution cases. They understand the tax laws and IRS codes extensively. They can represent you through the audit, and they can deal with the IRS employees on your behalf. Then, if you end up with a bill, they can help you figure out how to deal with the tax debt.
In some cases, audits lead to additional tax assessments. For instance, if you underreported income, the auditor will add the income to your return, and that will increase the tax liability associated with the return. Can’t afford to pay the tax liability after an audit? You have choices. The IRS may be willing to let you set up a payment plan or make other arrangements on your tax debt.
If you disagree with the results of the audit or if you have new details to share, you may be able to request an audit reconsideration. You must file the right forms and meet very specific deadlines for a reconsideration.
When you are being audited by the IRS, it is important to know the rules of the game. IRS Tax auditors are experts are evaluating people and uncovering elements of your situation that may not have been covered in the initial audit notice. Having a licensed tax professional on your side can significantly increase the odds of you getting a better outcome on your audit. A tax pro can defend you as you go through the audit process. Having a W Tax Group licensed tax professional represent you before the IRS could actually end up saving you a significant amount of money.
The IRS tax code has many thousands of unique regulations, it’s very unlikely for anyone except an experienced tax professional to know them, understand them and use them to their advantage. This is why it makes logical and financial sense to put a licensed tax professional on your side.
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