Individual taxpayers collectively underreported the income tax they owed by an average of $314 billion per year in 2011, 2012, and 2013, according to the most recent federal tax compliance research published by the IRS. After accounting for late payments and IRS enforcement, collective underpayment still averaged $271 billion per year.
That, in a nutshell, is why someone might get audited.
Most people’s chances of being audited in a given year are less than 1 percent. Nonetheless, about 1 in 4 American taxpayers fear a personal tax audit, according to an August 2022 survey by Morning Consult.
If you’ve been selected for an audit, you’re probably worried that you’re about to get caught for something you know you did wrong, or, perhaps more likely, that you unknowingly did something wrong and it’s about to cost you. After all, the complexities of the U.S.tax code can trip up even the most honest taxpayer.
Reasons the IRS might audit your tax return
These are some of the more common reasons the IRS might audit your return:
- Typos. A simple typo in your address or Social Security number could trigger an audit. It might appear that you didn’t file a return when you actually did.
- Missing information. Maybe a financial institution filed a 1099 with the IRS to report interest or investment dividends you earned, but you didn’t report that information on your return. It’s easy to miss those electronic 1099s that only show up in your email inbox, not your mailbox.
- Math errors. The IRS identified nearly 13 million math errors on individuals’ 2020 tax returns. The IRS categorizes math errors broadly: incorrectly claiming certain tax credits, choosing the wrong filing status, claiming the wrong number of exemptions, and more. About 11.4 million math errors in 2020 were related to the Recovery Rebate Credit associated with the COVID-19 relief Economic Impact Payments.
- Dishonest tax preparers. Sometimes the IRS discovers a tax preparer who has been filing inaccurate returns to reduce clients’ tax liability. The IRS will then audit some or all of the returns that preparer filed. You’ll be on the hook financially for their wrongdoing, whether you knew about it or not.
If the IRS decides to audit your return — which can also happen purely by random selection, in addition to the reasons above (and others) — you’ll usually hear about it within three years. Taxpayers with incomes of $100,000 or higher more often get an audit notice toward the end of the three-year period, according to the most recent IRS data on audit rates, which was released in May 2022 and covers the period through September 2021.
Your chances of a personal audit
For the 2019 returns it has examined so far, the IRS has audited the highest percentages of tax returns for filers in these categories:
- Income above $10 million: 8.7 percent
- Income of $5 million to $10 million: 2.0 percent
- Income of $1 million to $5 million: 1.3 percent
- Income of $500,000 to $1 million: 0.6 percent
- No income: 1.1 percent
- Earned income tax credit claimers: 0.8 percent
- Income of $1 to $25,000: 0.4 percent
Taxpayers with an income of $25,000 to $500,000 have all been audited at the same rate so far — 0.2 percent — for 2019 returns.
Although audit rates for all taxpayers declined substantially from 2010 through 2017, the Inflation Reduction Act of 2022 will increase IRS funding by $80 billion over the next decade. That’s an increase of about 66 percent per year after two decades of funding being flat while the U.S. population has grown.
Increased audit efforts are supposed to target large corporate and global high-net-worth taxpayers, pass-through entities, and multinational taxpayers, not households earning less than $400,000 or small businesses, according to an August 2022 letter from IRS Commissioner Charles P. Rettig to the United States Senate.
What to do if you’re audited
A third of people say they don’t know what they’d do if they were audited, according to a 2018 survey by the audit defense firm TaxAudit. This uncertainty may explain part of the fear. We tend to fear the unknown, but planning how we might handle a situation we fear can make it less scary.
And understand that there are different types of examinations. People hear "audit" and think of an IRS agent coming to their home and poring over their receipts. But most examinations (75 percent) are conducted solely through the mail. And mistakes like the audit triggers listed above can be easily resolved through correspondence.
But what about those cases that are more involved?
“First and foremost, hire an excellent accountant — and if the issue is big enough, one who is also a tax attorney,” said Paula C. Brancato, a MassMutual financial professional with Barnum Financial Group in Long Island City, New York.
Your accountant should know the particular IRS office and auditors assigned to your case and have great experience with that office on audits similar to yours, she added.
How to prepare for a personal tax audit
Most people say it is unacceptable to cheat on their income taxes, it is their civic duty to pay their fair share, and personal integrity is the biggest factor influencing them to report and pay their taxes honestly. But fear of an audit and wanting to avoid interest and penalties are also major influences, according to the 2021 Comprehensive Taxpayer Attitude Survey published by the IRS.
The best way to prepare for an audit is to file your tax return accurately and honestly every year. Further, prepare your return with the assumption that you will be audited.
● Gather and organize every document you might need to substantiate every line of your return.
● Make notes to yourself about anything unusual so that if you have to revisit your return months or years later, you can remind yourself what happened.
● Maintain both paper and electronic records of your supporting documents: W-2s, 1099s, account statements, canceled checks, invoices, and bills.
● Keep records of your nontaxable income in case you need to prove why you didn’t claim certain account deposits on your return.
● Compare your current return with last year’s return to look for possible errors before you file.
With this preparation, if you ever get an audit letter, you’ll have a head start in defending yourself. All you’ll need to do is pull out your file and review it with your accountant or attorney. If you don’t do these things every year when you file, you’ll have the much-tougher task of reconstructing the records you need after the fact.
Possible tax audit outcomes
Most people assume that the IRS audits people’s tax returns to find tax cheats. Making sure Americans are following the law and contributing to the federal budget is certainly a driving factor given the estimated multibillion-dollar tax gap.
However, the stated purpose of an IRS audit is to make sure Americans are reporting the correct information and paying the correct amount of tax — not to make sure Americans are paying as much tax as possible. Indeed, in fiscal year 2021, the IRS recommended over $983 million in refunds on 17,105 individual returns it audited.
That said, it’s far more likely that the IRS will either agree with your return as filed or assess additional tax. The service recommended more than $8 billion in additional tax as a result of its FY 2021 audits of individual returns. Why “recommended”? If you disagree with the audit results, you can appeal.
If you’d prefer to get expert tax advice rather than decipher IRS publications and notices yourself, check out the IRS’s guidance on choosing a tax professional. A MassMutual financial professional can help you with more holistic financial planning, such as making recommendations involving strategies to set up a trust, doing a Roth IRA conversion, or investing in a 529 college savings plan.
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