Back in the day, the word “audit” conjured up widespread fear and loathing. With an astonishing 5.6 percent of all Americans receiving that dreaded audit notice from the Internal Revenue Service in 1963, nearly everyone knew someone who had been subjected to a tax audit. The number of IRS audits has declined sharply since then, with a 23 percent decline in the past twenty years. Nonetheless, the IRS has not completely pulled the plug on audits, although budget cuts has precipitated a shift from all-encompassing in-person audits in favor of less cumbersome, less costly audits that focus on specific tax issues.
Five Reasons for an IRS Audit
So, why would a person or business get audited? Here are some of the reasons you may be audited by the IRS.
- Failing to report income
- Claiming too much in charitable donations
- Claiming too many business expenses
- Claiming a loss for a “hobby” activity
- Making errors on your return
Tax Return Errors
The vast majority of audits are related to items on tax returns that trigger red flags, such as math errors, inconsistencies between W-2 and 1099 forms.
Unusual Increases or Decreases in Income
Another common red flag is a return that shows a reported income or income far out of line with earnings from previous years.
Associated Transactions
You may also be audited if your tax return reflects transactions with another taxpayer who is being audited.
Above Average Withholding
Automatic red flags such as above average withholding for your income level may also trigger an audit.
Random Audits
A certain number of audits are the result of plain bad luck – returns chosen at random.
How Do You Know If the IRS Is Auditing You? The letter informing you that you are being audited should include a notice number in the right-hand corner. This notice number will indicate the reason for the audit. You should use this notice as a guide to determine which records you should gather. Scams are unfortunately common, so it’s important to understand the process. Learn more about the audit notification process in our blog: How to Know If The IRS Is Auditing You.
The Types of Audits
The audit notification letter you receive should also indicate what type of IRS audit you have been selected for. Depending on the type of audit you are facing, your tax matters could be settled in a matter of days or linger for months. For more involved audits, obtaining the services of a tax professional is highly advisable. Consider the following types of audits to better understand what it means to get audited.
Correspondence Audit
A correspondence audit is conducted by mail. Correspondence audits usually involve tax matters that are relatively easy to resolve. In most instances the IRS is seeking copies of checks, receipts and other documentation to support deductions or credits that you have claimed, or to clarify other items on your tax return.
Office Audit
An office audit is conducted in person at your local IRS office. You should be prepared to report to the office with copies of the requested documentation. You may also have a legal representative or your tax preparer present during the audit.
Field Audit
Like an office audit, a field audit is also conducted in person. Unlike an office audit, a field audit is conducted in your place of business. You should be prepared to present copies of your documentation at the audit, and your legal representative or tax professional should also be present. You are not obliged to allow IRS personnel into your home unless the agency has obtained a court order. If you claim the home office deduction, agents may request to enter your home; if you refuse the request, your deduction will almost certainly be disallowed.
Taxpayer Compliance Measurement Program Audit
The IRS uses Taxpayer Compliance Measurement Program (TCMP) audits to update the data it uses to write it computer scoring program. This is the most extensive type of audit, which examines every aspect of your tax return. If you receive notice of a TCMP audit, you should be prepared to present exhaustive documentation, including birth and marriage certificates.
Can You Go to Jail for an IRS Audit?
While an audit may require significant effort on your part to gather the documentation required, it should not inspire panic. The unofficial threshold set by the IRS for tax fraud is at least $70,000 in unlawfully uncollected taxes and at least three years of fraudulent conduct. Therefore, while the odds are stacked against you in terms of escaping without additional tax obligations, it is extremely unlikely that as an honest taxpayer, you will face criminal charges or jail time as a result of an audit.
Learn more about tax fraud and how it happens with Optima Tax Relief. If you need tax help, contact us for a free consultation.