Few things are more unnerving than
having your tax return selected for an IRS audit. The
IRS uses that "audit anxiety" to help keep taxpayers
honest. Audit anxiety is an important part of our voluntary
compliance system. Do you wonder what the audit
lotto odds are in your geographic regions?
• The TCMP Audit
What determines whose returns will
be picked for audit? A certain number of unlucky taxpayers
will be picked simply to help the IRS gather statistics.
The "TCMP" audit (Taxpayer Compliance Measurement
Program) is probably the most exacting audit. These are
sometimes referred to as the audits from hell.
The taxpayer is required to substantiate every number
on his or her tax return. The results from these audits
are used by the IRS to compile statistical information
that can be used for other audit purposes. These statistical
audits have been suspended until further notice, but they
could be reinstated at any time.
• DIF Scores Count
Apart from the TCMP program, your
return will be evaluated based on your "DIF"
score, a set of IRS formulas known as the "Discriminate
Function System." About three-quarters of all returns
audited are selected by the DIF computer, which compares
deductions, credits, and exemptions with the norms for
taxpayers in each income bracket.
While these formulas are kept very
secret by the IRS, you can count on having a higher audit
probability if you fall into certain categories or report
certain things on your tax return.
• What interests the IRS?
Some higher risk areas are –
1. Tax shelters. Though most new tax
shelter write-offs have been eliminated by tax reform,
old shelter deductions will continue to interest the IRS.
Returns with passive income and losses are certain to
2. Tax protests. Both the IRS and
tax courts are getting fed up with what they consider
frivolous tax protests. If you file a return stating that
you owe no tax because the dollar is worthless or make
some other such protest, you'll probably be audited.
High income. Because auditing higher-incme taxpayers is
likely to produce more additional tax revenue than auditing
lower-income taxpayers, this category is targeted by the
4. Certain occupations. Taxpayers
whose occupations produce cash income, such as taxi drivers
and waiters, run a higher risk of being audited. Self-employed
individuals, particularly independent contractors, are
IRS targets for the same reason; they are more likely
to have unreported cash income.
5. No preparer or a problem preparer.
If you have a complex return and prepared it yourself
or if your return was prepared by someone on the IRS's
problem preparer list, you are more likely to be audited.
6. Certain deductions. The IRS has
found it profitable to audit returns that claim office-in-the-home
deductions, travel and entertainment deductions, and certain
other write-offs where they feel taxpayers stretch the
7. Related party transactions. Taxpayers
who involve family members in their financial operations
are more likely to be scrutinized by the IRS. Paying wages
to your children, lending money to relatives, splitting
income among family members, or running a family business
will make the IRS more interested in your returns.
What other information is collected
but not used at this time?
1. Cash Transactions reports are posted
to your personal tax record. These are the reports of
cash transactions of more than $10,000.
If your transaction is legal don't
worry about this! It is a crime if you structure transactions
to avoid the report. If you receive money from overseas,
you must file a special report. This will be important
to dual nationals or individuals who immigrated to the
2. When a passport is issued, a note
is made in your personal tax record.
• Your Best Audit Defense
Between one and two percent of all
individual tax returns filed in any year will be selected
for audit. Higher-income taxpayers and those in target
categories face a slightly higher audit risk than lower-income
Absent fraud or substantial understatement
of income, the IRS has three years from the due date of
your return to initiate an audit. Typically, most returns
are selected within two years of their filing date.
The best defense in an audit is a
(1) Have supporting documentation
for all deductions and credits, and
(2) See your accountant immediately
upon notification that you're being audited.
A professional can put your mind at
ease, find the information that the IRS wants more quickly
than you can, and very likely will save you money in the
long run by getting a faster and more favorable conclusion
to the audit.
If we can assist you in any way
in your tax and business affairs, contact FileTax t 415 202 8555. We
are on the net to offer service world-wide.