There is a letter for you. The return address looks ominous – as the first line reads: Internal Revenue Service.
You opened it. Your worst fears are confirmed. It is the dreaded notice that your individual income tax return is under audit or, to put it in the language used by the IRS, “your return has been selected for examination.” Each year about 1 in 160 individual taxpayers are audited and the chance of an audit goes up as your income increases. About 1 in 50 tax returns reporting gross income above $500,000 are audited and, for returns reporting more than $5,000,000 in gross income, that chance rises to around 1 in 12.
A few questions likely spring to mind upon receiving notice of an audit. What can I do to prepare for this? What should I expect as the audit progresses? How should I handle the auditor? What steps can I take if I disagree with the results? Bennett Thrasher’s tax experts can help. Our tax compliance and controversy services are designed to assist our clients at each step of the auditing process.
Why am I being audited by the IRS?
If you are being audited by the IRS, you may be wondering why. Below are the most common reasons the IRS chooses to audit an individual:
- The IRS believes the taxpayer failed to report items like W-2 wages, bank interest, or the sale of stock or mutual funds
- The taxpayer’s return had large, unusual or questionable deductions
- The taxpayer’s return scored as having a high potential for error
What is a DIF Score?
The IRS uses a data analytics program to screen tax returns known as the Discriminant Index Function, or DIF. This tax return screening program has been used by the IRS since 1969. Based on algorithms that the IRS keeps classified, the program performs an analysis of various lines of a return and assigns it a numerical score. Much like the credit scoring system that provides a numerical score indicating someone’s credit worthiness, the DIF system gives each return a numerical score that indicates the probability of error.
IRS Audit Preparation
Preparation is key. The best preparation occurs before the audit notice is ever mailed. You should keep all the records used to prepare your return well organized and preferably in one location.
The Audit Process
The taxpayer receives a letter notifying them of an IRS audit, indicating whether it will be a correspondence, office, or field audit.
- Correspondence Audit – A correspondence audit is the least intrusive of the three and focuses on a few issues such as omitted income or large, unusual, or questionable deductions.
- Office Audit – Office or field audits are conducted in-person by IRS personnel known as Tax Compliance Officers or Revenue Agents. Office audits usually involve less complex tax returns and are audited at an IRS office during a scheduled appointment.
- Field Audit – The field audit, conducted by the Revenue Agent, is the most comprehensive of these three types of audits. It typically involves the agent’s request for an in-person interview and in the case of a business owner, a tour of the business.
The auditor will request documents on a form known as an Information Document Request or in IRS verbiage an “IDR.”
The request will provide a response date by which the information is to be provided. Be sure to make note of it.
Regardless of the type of audit, the end of the audit process will involve an audit report.
Issued on an IRS Form 4549, known to IRS agents as the Revenue Agent Report (RAR), it will provide an explanation of any proposed tax changes and its bottom line will indicate the additional tax due, if any. It’s possible to get what the agents call a “no change” report, one of the two preferred outcomes for the taxpayer. The other, is that unusual occasion in which the audit results in a refund to the taxpayer. Yes, this happens. Rarely.
Handling the Auditor
The best advice here is to leave the matter in the hands of a professional. Consider engaging a tax professional skilled in IRS practice and procedure. Our experts at Bennett Thrasher are authorized to handle all aspects of the audit for you including attending meetings and interviews, responding to information requests, responding to audit issues, and disputing tax changes to your return.
Under the Taxpayers Bill of Rights, a taxpayer, who has retained an authorized representative, cannot be made to attend an interview with an IRS agent unless a summons is issued; This is a tactic that the IRS doesn’t employ in most audits. Therefore, if you have retained an authorized representative, let the representative handle the interview.
Disputing IRS Audit Results
The auditor doesn’t have the last word. If you disagree with the auditor’s findings, you have four basic avenues to dispute the matter.
Conference With The Auditor’s Manager
The first, a conference with the auditor’s manager, is the simplest. The request can be made informally; typically, in a phone call to the manager. This usually works best in situations where the auditor is being unreasonable about tax issues relating to the adequacy of the taxpayer’s documentation.
If a conference with the manager fails to achieve the desired outcome, several administrative avenues are open to appeal the findings within the IRS.
Fast Track Settlement Process
The first is a relatively recent IRS program known as the Fast Track Settlement process. Functioning much like a mediation conference, the IRS assigns the case to an Appeals Officer who meets with the taxpayer, the IRS auditor, and his or her manager to try to mediate an agreed resolution. These meetings usually last just a few hours.
Formal Protest With IRS Appeals Division
For issues in which the taxpayer and IRS cannot reach an agreement during Fast Track, the taxpayer can still file a formal protest with the IRS Appeals Division. This process can take some time and normally requires someone skilled in IRS tax controversy to write the protest and attend the appeals conferences.
Take The Dispute To Court
Finally, the taxpayer always can take the dispute to court. The Tax Court is the primary venue for these proceedings and hears numerous tax cases around the country annually. Although a taxpayer can represent himself in tax court, most taxpayers heading to tax court wisely choose to be represented by a tax professional.
Bennett Thrasher LLP’s Tax Controversy Practice helps clients resolve IRS matters. This includes helping clients manage IRS tax disputes involving both field and correspondence audits, post-audit issue resolution, penalty and collection notices, claims and other tax compliance-related matters.
For more information contact James Pickett, Director of Tax Controversy, or call us to set up an in person consultation.