An IRS audit examines a company’s or individual’s accounts and financial information to ensure that information is correctly reported to the IRS, following tax regulations, and that the tax amount declared is accurate.
The fact that you’ve been chosen for an audit doesn’t always indicate there’s a fault. The IRS employs a variety of techniques, including:
The IRS may choose returns based purely on a statistical algorithm. Your tax return is compared to “norms” for similar returns.
These “norms” are generated based on previous, successful audits of a statistically valid random sample of returns. The IRS has a computerized system to update return selection information.
The IRS may choose your returns if they involve issues or transactions with other taxpayers whose returns have been selected for audits, such as business partners or investors.
An experienced auditor then reviews the tax return. The IRS may choose to accept the tax return in its current state. If the auditor finds something suspicious, they will specify the problematic items and return them to an examining group for another review.
The IRS conducts audits by mail or in-person interviews to examine your files. The examination can occur at an IRS office (office audit), the taxpayer’s home, business, or accountant’s office (field audit). Remember that you will be notified by mail first. The IRS will include all necessary contact information and guidance.
If the tax audit happens by mail, the IRS will send a letter requesting further information about certain things on your tax return, such as income, expenses, and itemized deductions. Again, you can seek a face-to-face inspection or review if you have voluminous records to mail.
The Internal Revenue Service will mail you a written request for the papers that we need to view. In addition, the IRS accepts some digital records generated by tax software.
The IRS may ask for them instead of or in addition to other related records. According to the law, all documents used to prepare your tax return must be kept for at least three years after the tax return is submitted.
In most cases, the IRS can audit returns submitted within the last three years. The IRS may add additional years if they find significant issues. However, they rarely look further than the previous six years.
The Internal Revenue Service attempts to audit tax returns as quickly as possible after they are filed. As a result, the vast majority of audits will focus on returns filed during the last two years.
Common Tax Audit Triggers
You Didn’t Disclose All of Your Earnings
The IRS receives copies of the W-2 forms and 1099s that show your earnings. Expect to hear from the IRS if the figures are off. The IRS will almost certainly do a cross-check to ensure that all of the income reported on Form 1099 is also recorded on the proper lines of the tax return. You will almost certainly be audited if you haven’t disclosed revenue from various forms, such as 1099s or W-2s.
Check for any missing W-2s or 1099s when you compile your tax records before filing – mainly if you conducted freelance work for numerous employers or changed jobs in the year.
You Own Property or Have Money in Another Country
This is a significant issue. The IRS is especially interested in taxpayers who have assets, and cash stashed abroad, especially in countries with more advantageous tax regulations than the United States. Accordingly, the Internal Revenue Service has tightened its standards for assets kept in foreign lands and has also increased its closely examining these tax reports.
The IRS can generally obtain information about your account from a foreign bank, and it will do so if it believes you owe taxes on the funds you’ve placed there. In reality, certain international banks are required to give lists of American account holders to the Internal Revenue Service.
On FinCEN Form 114, you must declare all overseas accounts with total cumulative balances of more than $10,000. If you have $50,000 or more in foreign assets and investments, you must report them on IRS Form 8938. If you do so, you’ll be following tax law, but you should also anticipate the IRS to double-check that your account balances are what you’ve represented.
You Claimed the Deduction for A Home Office
Many people are hesitant to claim the home office deduction because they are concerned that it would result in an audit. This can be an excellent respite to offset the costs of setting up and maintaining a home office. However, not everyone who works from home is qualified; the home office deduction is only available for self-employed workers. To be eligible, you must utilize a portion of your house for business “regularly and exclusively.”
You Stated That Your Business Had Suffered Losses
When you own a business, you may deduct many expenses, but the IRS wants to be sure you didn’t start one merely to take advantage of the deductions. Your business may have more expenses than income in some years, especially when it’s first starting, but the IRS will be suspicious if it never makes a profit. Enterprises experiencing net losses year after year, or businesses that appear to be just breaking even, are audit red flags.
Your Business Expenses Were Exceptionally High
If your expenses are much higher compared to similar businesses, the IRS may contact you. The IRS evaluates deductions taken by taxpayers in the same income bracket or company type to discover anomalies. Therefore, keep careful records of your business spending for at least three years after the tax-filing date — at least six years if you have multiple sources of income – especially for years with substantial expenses.
You Failed to Disclose Cryptocurrency Transactions
If you receive bitcoin as a form of payment or make a profit or loss from selling it, you must formally declare it.
Cryptocurrency is a contentious topic with the IRS.
If you didn’t report any bitcoin transaction that the IRS is aware of, you should expect to hear from them. For example, if a taxpayer has $20,000 in cryptocurrency transactions, they will obtain a form 1099-K or 1099-B. The IRS will be notified if such a form is received.
Without IRS audit representation, you could end up paying more to the government than necessary. How can we help you? Tax Law Advocates is the firm you want to represent you during an IRS audit in California .