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IRS to Increase Audits of Prior and Subsequent-Year Tax Returns
IRS Audits - What to Expect
IRS Increases Criminal Investigations, Prosecutions and Convictions of Tax Evaders and Preparers in 2012
The Internal Revenue Service needs to strengthen its correspondence audit selection process by auditing more of the prior- and subsequent-year tax returns of non-compliant income tax filers, according to a new government report.
The report, by the Treasury Inspector General for Tax Administration, noted that the IRS relies heavily on the correspondence audit process to examine individuals who are suspected of under reporting their tax liabilities.
The correspondence audits often result in significant additional tax assessments, and the IRS has found them to be more economical than other types of audits. Statistics indicate that in fiscal year 2012, the IRS conducted 1.1 million correspondence audits and recommended approximately $9.2 billion in additional taxes.
For its report, TIGTA set out to determine the effectiveness of the filing checks made during the correspondence audit process in the IRS’s Small Business/Self-Employed Division. Filing checks are used, in part, by the SB/SE Division to determine whether the same pattern of noncompliance identified on an audited tax return is present on the prior- and subsequent-year tax returns, and if those tax returns also warrant an audit. When they are properly completed, filing checks enable the IRS to better leverage its auditing resources by increasing the overall compliance coverage of every audit.
TIGTA evaluated a statistical sample of 102 out of 7,470 single-year correspondence audits in which the taxpayers involved agreed that they understated their tax liabilities by at least $4,000. Similar tax issues also existed on the prior- and/or subsequent-year tax returns for 43 of the 102 taxpayers. TIGTA found that 32 of the 43 individuals did not have those tax returns audited and, as a result, may have avoided additional assessments ranging from $2,343 to $18,874.
TIGTA pointed out in its report that one factor that may have contributed to the limited number of prior- and/or subsequent-year tax audits in the sample it examined is the emphasis the IRS places on keeping its audit inventories free of older tax years so there is enough time to complete audits and assess any resulting taxes within the three-year assessment statute of limitations. There are also some control issues involving how current-year audit results are used to decide whether to audit any prior- and subsequent-year tax returns.
TIGTA recommended that the IRS develop and implement procedures that instruct its auditors how they should use current-year correspondence audit results when deciding whether the prior- or subsequent-year tax returns also warrant an audit. To ensure that the instructions are followed,
TIGTA also recommended that the procedures should include instructions for monitoring how well current-year correspondence audit results are used in deciding to audit prior- and/or subsequent-year tax returns.
The IRS agreed with TIGTA’s recommendation and plans to develop an Internal Revenue Manual section to address the case selection and delivery process, in addition to the duties and roles of IRS analysts and examiners.
“We agree that, in certain circumstances, it makes sense to audit the prior- and/or subsequent-year return; however, we need to consider various factors when making that determination,” wrote Ruth Perez of the IRS’s Small Business/Self-Employed Division, in response to the report. “For instance, when deciding whether to select a prior-year return, both the burden on the taxpayer and the administrative responsibilities of the IRS must be considered when there is limited time remaining on the statute of limitations. In addition, to best use our limited resources, we select the next best case for examination which may not be the prior or subsequent year of the taxpayer under examination. We will create procedures for selecting prior-year returns taking these items into consideration.”
The SB/SEC Division has already developed and implemented procedures for addressing all subsequent-return filings on the agreed and default discretionary workloads that are delivered by the IRS’s Campus Reporting Compliance unit, she pointed out.
“We will ensure those procedures are properly documented and monitored,” Perez added. “We agree that there may be some measurable benefit derived from your recommendations. However, we believe the outcome measure, as calculated, does not take into account the impact of our model of working the next best case or our procedures to ensure we only work cases with sufficient time on the statute of limitations for assessment.”
What to expect from an audit:
Being selected for an IRS Audit doesn't mean "the IRS is out to get you". Most audits are computer generated due to an error between what was reported on your return verses electronic information reported to the IRS. Occasionally, the IRS's computers randomly selects your number for audit. Your business/profession can be selected to participate in an annual initiative to "test" industry compliance. Or, a competitor or disgruntle employee "squealed" on you. The IRS should inform you as to why you/your return has been selected for audit.
Preparing for the Audit
If you are one of the unlucky few who are chosen for a tax audit, you'll need to be prepared. It is crucial that during an audit, you have representation. The first step should be to take a good look at the details of your return to refresh your memory and discuss any issues with your tax professional. Once you have a thorough understanding of the contents of your tax return, you'll need to organize your records to support the items questioned by the IRS. Prior to the actual examination, Total Tax Solutions will discuss a range of issues that you are comfortable accepting. This will prepare you for possible settlement terms that might be discussed later by the examiner. By consulting with an Total Tax Solutions up front, you can learn what to expect from the IRS, what questions that you will be asked, and what documents they will require.
Typically, matters being questioned or disputed by the IRS are complicated, Total Tax Solutions will provide you with expert counsel to easily explain the technical nature or the issues/position formulated by the IRS. If you decide to attend the examination, take only the records related to the items in the IRS Notice of Audit - do not volunteer extra records, since you may end up subjecting yourself to a new investigation. If the examiner happens to question you on an item not mentioned in the IRS notice, you should refuse in a polite but firm manner until they file a formal request for this information.
There is a risk to attending the audit without representation, the agent will want to expand the audit into prior or subsequent year tax returns or will want to audit related returns. This should be discouraged because it increases your exposure and risk. Every attempt should be made to answer the agent's questions and provide documents in such a manner as to discourage the "mushrooming" of the audit into other entities and issues.
If the audit occurs in your place of business, all employees should be instructed not to talk about the business or the audit with the IRS agent. Inquiries from the IRS agent should be referred to you or Total Tax Solutions. Finally, 10 days prior to the interview, you should give the IRS written notice that you will be making an audio recording of the interview with the IRS agent. Video recordings are not allowed.
Total Tax Solutions Can Help
Taxation is very complicated and technical and you will likely benefit from having Total Tax Solutions on your side. Many taxpayers go into an audit totally unprepared and hope for the best. Taxpayers think that if they can impress the auditor that they are nice, law-abiding, decent human beings and not common criminals, the IRS auditor will be friendly, be sympathetic, and politely let them off the hook. That is the furthest thing from the truth. Tax auditors employ tactics to be nice, to probe and detect errors and do not think too kindly of others who don’t comply with the tax codes.
Deadlines are Key!
The IRS is limited in time in which to collect from you. Similarly, your rights to disagree and certain options to exercise your rights lapse as well. Allow enough time to deal gathering information and responding. Don’t hire a professional the day of your schedule examination!
Be proactive! Be sure to show that you are responsive. Doing nothing is the wrong way to go! Your responsiveness clearly indicates that you acknowledge that a problem exists and that you are dealing with it. If you need additional time, ask for it! Similarly, you can ask for second or third extensions with generally little resistance. The ability of the IRS to collect from you is quite lengthy and they will generally patiently wait it out.
Organization is Paramount!
Don’t show up with a box full of receipts, bills, etc. When asked a direct question, have the information readily available. Don’t hunt for the information during an examination. Don’t bring documentation that you don’t need. This can only hurt you!
Staying in touch and Following up!
IRS auditors have tremendous case loads and only limited time to work on yours. Set deadlines and follow up. If you don’t hear back, follow up again. In writing!
The Bottom Line
Usually, the IRS will conduct an audit of a tax return only if it sees some invalid deductions or other expenses and it is confident that the audit will result in a tax collections. Less than 2 to 4 percent of the tax returns that are filed are audited. If your number comes up, be prepared to get things organized and to present your personal/business in the most favorable light possible.
Although audits are unpleasant, you don't need to dread them if you've kept your financial records organized, up to date and above board. If you are chosen for an audit, make sure the examination is scheduled far enough in advance for you to get ready. Solid preparation should enable you to get through the audit with a minimal amount of stress. A big part of handling an IRS audit is communication and the ability to manage difficult personalities. If you have these skills, you may want to handle the audit yourself. If not, you may need a "hired gun!"
IRS Increases Criminal Investigations, Prosecutions and Convictions of Tax Evaders and Preparers in 2012
The IRS recently released statistics on criminal investigations conducted during 2012. These statistics focus on tax evaders and tax preparers that came under the scrutiny of the IRS during the past fiscal year. In comparison to the previous year, investigations and prosecutions both increased by approximately 9% for evaders and tax preparers.
The IRS’s criminal investigation unit specializes in complex financial investigations. The types of financial crimes that the bureau pursues include tax fraud, identity theft, money laundering, public corruption and offshore tax evasion. Every year, the IRS’s Criminal Investigation (CI) unit conducts thousands of investigations into these types of activities.
The IRS has also increased the numbers of indictment filings as well – by 13%. Convictions are also went up by 12% during this recent time period. Conviction rates are solid – 93% for 2012. The IRS’s CI unit is doing a very good of compiling the necessary evidence to build strong cases against the accused. With today’s access to electronic data and the ability to track financial movements; it is more difficult for criminals to get away with these types of crimes. In addition, the IRS is also spending more time going after the individuals responsible for helping these criminals and tax evaders.
It is clear that the IRS has improved their track record when it comes to criminal activities, utilizing their forensic capabilities in analyzing complex paperwork and computerized records and transactions. The bureau’s goal is to be the best at financial investigations worldwide.