An IRS tax audit is a compliance procedure by which the IRS examines a taxpayer’s accounts and financial information to ensure that the information the taxpayer reported was filed in compliance with existing tax laws. In short, the purpose of the audit is to ensure that the tax return(s) was filed accurately. Taxpayers are generally selected for an audit based on computer scoring or by random selection.
If you are selected for an audit and receive an audit notice, the IRS has the authority to go back three years from the original date of the return. Additionally, if the IRS finds a substantial error in the return, the IRS may go back more years but generally does not go more than six years.
The IRS completes hundreds of thousands audits annually. In fiscal year 2020, the IRS closed 942,155 cases under its Automated Underreporter Program; this resulted in the IRS recovering more than $3.9 billion from additional assessments. In addition to this recovery, the IRS recovered approximately $5.6 billion under its Automated Substitute for Return Program. Now that’s a whole lot of money! So when the IRS contacts a taxpayer, the department will not only make sure that the return is in compliance but will also come to collect if there's an amount that's owed.
So what should you do if you check your mailbox and to your surprise you have received an IRS audit letter? Should you break into a scream, sweat, or run in a panic? None of the above. The first thing you should do if you receive a notice from the IRS is to arm yourself with the right tools and also immediately contact a competent advisor.
While the risk of being audited may vary depending upon IRS’s budget and priorities, it is still worth your while to review the necessary steps if you should be faced with an IRS audit.
Note: If the IRS selects your account for audit, the IRS will notify you by mail. Never correspond with an email from the IRS; it is almost always part of a phishing scam.
What type of audit to expect
The type of IRS audit process that any taxpayer should expect depends on the degree and nature of the tax issue. Regardless of the type of tax issue, the IRS generally uses that tool that will be the least burdensome on the taxpayer. There are two types of compliance actions the IRS may pursue:
- Correspondence audit
- In-person audit
In 2019, approximately three-quarters of examinations were conducted by correspondence. A correspondence audit, as the name suggests, is a mail audit. If the IRS audits you by mail, the department will send a tax notice requesting additional information for items reported on the tax return. In most cases, you will have 30 days to respond to the notice. The IRS could request additional information on the income reported, expenses taken, and deductions claimed. No matter the type of information the IRS requests, never send the IRS your original documents; instead, send a copy of the document(s) to the IRS.
How long do I have to respond to an IRS notice?
While an overwhelming majority of IRS examinations are conducted by mail, if you are audited by the IRS in this way, you should respond to the notice as soon as possible. In general, it takes the IRS up to 30 days to respond to a correspondence, but the IRS has a huge backlog of mail; it could take longer. While you should expect some delays, do not send the IRS multiple letters, because this can cause further delays.
An in-person audit could take place at an IRS office (office audit), your home, business, or the office of your tax advisor (field audit).
Ahhhh, the office audit -- the one most people see on TV. You know the scene where the taxpayer comes into the office with piles of paper, hundreds of old receipts, and enough sweat on their face to look like they just ran against Usain Bolt in the Olympics. While this is the typical fictional scene, an office audit does not have to look this way, especially if you come in prepared.
If you or the IRS request an office audit (in-person audit), the first thing you should do is consult or hire a competent advisor to prepare a tax audit defense or represent you at the audit.This type of audit takes place at an IRS office, and an IRS agent will be assigned to you. Like the correspondence audit, the purpose of this audit is to verify the information that has been included in the tax return.
Much like an office audit, during a field audit, an IRS agent will be assigned to you. Of all the audits, this type of audit is the most extensive. During this type of audit, an agent could come out to your home, office, or the office of your tax advisor. If you are exposed to this type of audit, working with a tax attorney is advisable.
If you are selected for an IRS audit, you may have to produce years upon years of tax records.The IRS requires records to be kepts for various degrees of time. The IRS provides information on how long records should be kept.
If your records were destroyed by a natural disaster, like Hurricane Ida or the California wildfires, you will have to reconstruct your records and provide the reconstructed records to the IRS.
What type of records will I need to produce?
The IRS could ask you to produce various types of records. Here is a list, just to name a few:
- Canceled checks
- Financial statements
- Legal documents
- Loan agreements
- Deed records
- Logs and diaries
- Settlement sheets
- Employment records
Request an extension
If you are facing an IRS examination and need more time to produce the requested records, the IRS allows you to make a one-time automatic 30-day extension. If you make the request and the IRS is unable to grant the extension, the IRS will contact you.
Conclusion of audit
Upon conclusion of the audit, the auditor can make one of three determinations: (1) no change (2) taxpayer agrees to the proposed changes (3) taxpayer disagrees with the proposed changes.
If you disagree with the proposed changes, you can request a copy of the examination report and also appeal the IRS decision. The IRS will send you a 30-day letter notifying you of your right to appeal to the IRS office of appeals. The office of appeals allows individuals to resolve their dispute with the IRS without involving litigation.
If you have appealed your examination and still have concerns the appeals employee did not address, you can contact the Appeals Headquarters office at 202-317-4170.
Stop interest from accruing
Since the examination process can be rather lengthy, if you believe that you may owe some additional tax at the conclusion of the examination, you can stop the further interest from accruing. That's right -- you can stop your exposure to interest and penalties by paying your tax liability. This will limit your overall burden, and if the examination shows that the IRS was incorrect, you can receive a refund or credit of the amount you previously paid.
The Millionacres bottom line
Getting audited by the IRS can trigger fear into the hearts and minds of many. In fact, many people suffer from forosophobia, which is a fear of taxes and the IRS. However, when armed with knowledge, education, and competent support, you can shrink any big bad wolf down to a small and cuddly teddy bear. Never face the IRS alone -- contact a tax professional for tax advice, and start working on your IRS case right away!