With tax season over, the idea of an audit might be on your mind. In 2020, it was reported that the 2019 tax examination rate had fallen as low as .045% from 0.9% in 2014. This is mostly due to budget cuts within the IRS and fewer employees available to complete audits. Although the number of audits has dropped, the possibility of facing an audit still exists so avoid the major triggers.
Typically, the poor and the wealthy are the most likely to draw the attention of the IRS for a tax audit. This includes taxpayers who earn $25,000 or less or those earning $500,000 or more per year.
What Is an IRS Audit?
It is important to know what a tax examination or audit is. Understanding what to expect can prepare you in the event that your return is selected for an examination. An audit is an evaluation of financial records to verify compliance with tax laws.
What Are Some of the “Red Flags” for the IRS?
Several circumstances can trigger the IRS to audit a tax return. These include, but are not limited to:
- Mistakes on your tax filing. Errors like using the wrong Social Security number or not using exact dollar amounts on your tax return could lead to an audit.
- Making a lot of money. Simply put, earning a great deal of money, specifically over $1 million, can be a red flag. Make sure you report your earnings accurately and carefully.
- Withheld income. Both you and the IRS receive copies of your W2s and 1099s. If there’s a discrepancy in your return, expect an audit.
- Substantial charity donations. Donating to a favorite charity can certainly be a good thing. If you’re making larger contributions of $250 or more, you should be keeping detailed records and an itemized listing of charitable donations.
- Large business expenses. If you report larger expenses than other businesses in a similar tax bracket, the IRS will notice. One major indicator is the purchase and use of a business vehicle. If you’re using it for both personal and business travel, you should be logging each category separately.
- Reporting business losses. The IRS may become suspicious of your business if it never makes a profit. Seeing a loss several years in a row is a major red flag.
There are many other factors that the IRS will consider related to tax examinations. These may include not reporting all stock trades or neglecting to report cryptocurrency transactions. These transactions not reported will likely trigger an IRS CP2000 Underreporter Notice.
What Do I Do If I’m Being Audited?
An audit sounds like a scary ordeal, but having organized and detailed financial records can reduce the stress of an audit. Hiring a tax professional, such as a tax attorney is also a good idea as auditors can commonly be difficult.
First, you’ll receive a mailed notice from the IRS of a discrepancy. The letter will ask for explanations of information in your tax return. It will also include all necessary instructions for the audit and contact information for the IRS.
It is possible to conduct your audit entirely through the mail, called a correspondence audit. Once you have gathered the necessary documentation, you can send it with your explanation of the discrepancy to the IRS.
An in-person audit is also an option. This may be necessary if your financial records are too complicated or if you are not able to send your documentation through the mail. In-person audits may be conducted at an IRS office, your accountant’s office, your place of business, or your home.
How Far Back Can the IRS Audit Taxes?
Audits of tax returns are usually initiated on returns filed within the last three years. However, the standard three-year limit can be extended to six years under certain circumstances. If you filed a fraudulent form, there is no statute of limitations.
Typically, the IRS tries to handle audits as quickly as possible. However, if an issue is not closed, they may request more time. The auditor may also extend the audit to multiple years. You’ll be asked to sign a form to grant them additional time to complete the examination when this happens. Declining the request will usually result in receiving a tax bill.
What Is the Earned Income Tax Credit?
Auditing the poor may seem illogical. However, the IRS looks for fraud related to Earned Income Tax Credit (EITC) claims. The EITC is a tax credit of up to $6,600 for low-income households. Determining eligibility for the EITC can be very confusing, and many people unintentionally claim EITC incorrectly.
In contrast, taxpayers who earn $10 million or more have the highest percentage of examinations. This includes up to 6% of taxpayers in this bracket.
The group least likely to be audited are those earning $100,000 to $200,000 per year. Most taxpayers in this bracket take the standard deduction instead of more complicated itemizations. They also typically have W-2 or 1099 forms from their employer, which the IRS can easily verify. These factors save this group both time and the potential for error. With less margin for error, there are fewer discrepancies and therefore fewer reasons to conduct an audit.
How Does an Audit Close?
An audit can be resolved in one of three ways. The first method includes completely addressing all the IRS’s concerns with your return. In this case, no amendments are made to your return, and they close the audit.
The second option is if the IRS suggests changes to your return and you agree to those adjustments. If you agree, you’ll have to sign their report and may owe additional tax payments.
The final way an audit closes is if you disagree with the IRS’s suggested modifications to your return. Should you disagree with their changes, you can request to meet with an IRS manager or file an appeal. If it has been closed, you have further options in filing an audit reconsideration.
Get Professional Assistance from Delia Law for Your Tax Audit
If you become involved in an audit for your tax return, contact the experienced tax lawyers at Delia Law. We can address your concerns with the utmost care and help you navigate the audit process. No matter where you live, our team is available nationwide. You can call our offices located in Bethesda, Los Angeles, New York, and San Diego. Contact us today for a free consultation.