Receiving an IRS audit notice is never something you will look forward to but, not all audits are the same. Most people assume that being audited by the IRS means they will have to sit down with an examiner at an IRS office and go through their entire return line by line. This is typically not the case. In fact, you may not even be required to sit down with anyone at all. In this blog we will go over the four different types of audits and what each entails.
THE CORRESPONDENCE AUDIT
This type of audit should be the least stressful due to the fact that you aren’t required to meet with an IRS examiner. A correspondence audit is conducted by mail and generally is limited to the IRS inquiring about one or two items. The notice you receive will inform you of the items they have questions about, which in turn should allow you to discern what supporting documentation you’ll need to gather and send to them. If you have the documentation, make sure you send a copy and not the originals to the IRS so they can review the information along with your return (originals will be gone forever if you send them to the IRS).
Once the IRS has reviewed the documentation you sent, one of two things will happen. The first and best outcome will be that they accept the original return as filed because they found the documentation you provided to be adequate in substantiating the questioned items. The second outcome is they propose an adjustment to your return because the documentation you provided did not substantiate all or part of the items questioned.
From here you have two options. The first is to accept the adjustment and pay the additional tax due. If the adjustments are fairly minimal ($5,000 or less), it may be less of a headache to just accept the adjustments and move on, especially if you know the supporting documentation you originally sent in wasn’t complete and you have no additional documentation to support the items that were examined.
The second option is to request a telephone conference with an examiner to discuss the initial determination. If you are unable to reach an agreement during the telephone conference, you can request to speak to a manager or request to have your case sent to appeals. If you reach an agreement by speaking with the manager or through the appeals process, your audit journey will be complete. However, if no agreement can be reached, the IRS will then issue you a Statutory Notice of Deficiency giving you 90 days to petition the United States Tax Court. If you do not petition the Court within the 90 days and no agreement is reached between you and the IRS, the tax will be assessed.
THE OFFICE AUDIT
The office audit is what most taxpayers think of when they hear “IRS audit.” This type of audit occurs because upon initial review of your return the IRS found multiple items they wanted to examine and a correspondence audit would not be sufficient. However, it can come from the fact that you were first involved in a correspondence audit and the documentation you sent in caused the IRS to take a further look at other items on your return.
The IRS audit cover letter prompts you to contact the local IRS office to schedule an appointment. At the appointment, you will be interviewed and required to explain the substantiating documents provided (for the selected items under audit). The letter you receive will give you a breakdown of what items they wish to discuss so you can gather all of your supporting documentation. Typically an office audit won’t take more than a day to complete. If the appointment ends and the audit examiner is requesting additional information, they should allow you time to gather it.
An office audit is definitely more serious than a correspondence audit due to the fact that the scope of the audit is reaching beyond one or two items and you will have to speak with the audit examiner in person. Because most taxpayers have a very limited understanding of their rights as a taxpayer and the tax law, they can sometimes say too much or provide more information than is necessary, which ends up causing them additional issues.
Once the appointment is completed, the next steps in the audit process is generally the same as it would be for a correspondence audit.
THE FIELD AUDIT
The field audit is the most invasive of all the different audits. It will involve the IRS examiner coming to your home or place of business to conduct the audit. A field audit is used when the IRS does not want to limit the scope of the audit. Instead, they would like to leave it open ended because they believe, based on the items they are examining, there could potentially be several other items that need to be examined.
Audit examiners that conduct field audits are different from the examiners for correspondence and office audits. These examiners are highly trained, usually have an accounting background or degree, and sometimes are even CPAs. Also, when assigning examiners for field audits, the IRS will take into account what type of business you are conducting. They do this so they can assign an audit examiner who is familiar and may even possess specialized knowledge relevant to income and expense figures for your industry.
Another reason for a field audit is the examiner will be comparing your home/lifestyle with the income you report on your tax return. Here they are looking to see if you are in fact reporting all of your income on your tax return. Be prepared to provide bank statements and accounting records to the examiner. If you don’t provide them, the examiner can (and most likely will) summons your bank for the information. The examiner will then go through all the bank statements and accounting records looking for any discrepancies.
TAXPAYER COMPLIANCE MEASUREMENT PROGRAM (TCMP)
The TCMP is used to update the IRS Discriminate Function System (DIF). For more information on this see How Does Your Tax Return Get Selected For An Audit. This type of audit is conducted every few years at random and involves up to 50,000 taxpayers. This audit is different from the other three audits because it is an audit of every item on your tax return. This means that you must have documentation for each item in order for it to be substantiated.
THE IMPORTANCE OF HAVING REPRESENTATION
The examiner you are dealing with may seem pleasant and the questions they ask harmless but, often times it is a way to get you to open up and begin talking. At that point you may end up divulging information that can be used against you later. If you are selected for an audit, more often then not it is a good idea to hire legal representation. Correspondence audits may be the exception here because you can probably handle sending in the documentation yourself. However, if the audit is expanded beyond the correspondence audit or the IRS does not accept the documentation you provided them, things can become more complicated. Having legal representation is not only a way to make sure your rights as a taxpayer are protected but also to make sure the process is conducted properly and efficiently.