What Are the Chances of Being Audited by the IRS?

An audit by the Internal Revenue Service (IRS) involves a review of a taxpayer’s financial information and tax returns to verify accuracy and compliance with tax laws. This process ensures that individuals and businesses report their income, deductions, and credits correctly. Receiving an audit notice does not automatically signify a mistake or wrongdoing on the taxpayer’s part. It is simply a mechanism the IRS uses to uphold the fairness and integrity of the tax system.

Overall Audit Statistics

The likelihood of an IRS audit has generally been low in recent years, though rates can fluctuate based on various factors, including income level and the complexity of a tax return. For instance, the overall audit rate for individual income tax returns declined significantly from 0.9% in 2011 to 0.3% in 2018. As of March 2023, the IRS had audited approximately 0.29% of 2019 individual income tax returns with positive income.

Audit rates tend to be higher for certain income brackets. Historically, taxpayers with incomes below $25,000 and those earning $500,000 or more have faced higher audit rates compared to the average. While audit rates for all income levels have decreased, the decline has been more pronounced for higher-income taxpayers. Despite this, the IRS generally audits higher-income individuals at greater rates than lower-income individuals.

An exception to the declining audit trend for lower incomes is for those claiming the Earned Income Tax Credit (EITC). EITC claimants, who typically have lower incomes, are audited at a higher rate (about 0.78% for 2019) because these audits are often more automated and require fewer resources. For Fiscal Year 2024, the IRS significantly increased its focus on high-income individuals with Total Positive Income (TPI) over $400,000, planning almost 71,000 audits for this group, which is about 2.5 times higher than the annual average from 2019 to 2023.

Common Audit Triggers

Certain actions and inconsistencies on a tax return can increase the chances of an IRS audit. Mathematical errors or typos are common triggers, as the IRS uses automated systems to check calculations. Discrepancies between reported income and information received from third parties, such as W-2s and 1099s, also frequently flag a return for review. The IRS automatically compares data from employers, banks, and other sources to what taxpayers report.

Unusually high deductions relative to income can also draw IRS scrutiny. For example, claiming large charitable contributions that appear disproportionate to reported income may lead to an inquiry. Business losses reported for multiple consecutive years or claiming 100% business use of a vehicle are other common red flags. Similarly, reporting income from the gig economy or self-employment without corresponding expenses can raise questions.

Complex transactions, like those involving foreign bank accounts, attract IRS attention. Any entry deviating significantly from typical patterns for a taxpayer’s income level and filing status may prompt a closer look.

Understanding Audit Types

IRS audits can take several forms, each differing in scope and method of interaction. The most common is the Correspondence Audit, conducted entirely by mail. These audits address simpler issues, such as verifying specific deductions or income items, and often involve the IRS sending a letter requesting additional documentation. Approximately 75% of all IRS audits are correspondence audits.

For more complex issues, the IRS may conduct an Office Audit. This type requires the taxpayer to attend an in-person meeting at a local IRS office with an auditor. Office audits often delve into areas like itemized deductions on Schedule A, business profits or losses on Schedule C, or rental income and expenses on Schedule E.

The most comprehensive examination is the Field Audit. An IRS revenue agent visits the taxpayer’s home, business, or accountant’s office for an in-depth review of financial records. These audits are reserved for complex business returns or high-income individuals and often examine many items on a tax return.

Preparing for an Audit

Effective preparation is important upon receiving an audit notice, focusing on gathering and organizing specific documentation. The original tax return and all supporting schedules for the audited tax year are essential. Income documentation, such as W-2 forms, 1099 forms, K-1s, and bank statements showing income deposits, must be readily available.

For claimed deductions and expenses, detailed records are essential. This includes receipts, invoices, canceled checks, and bank or credit card statements that substantiate each expense. If business use of a vehicle was claimed, mileage logs are necessary to verify the business portion of auto expenses. Records supporting claimed credits or significant deductions, such as educational or medical expenses, or charitable contributions, should also be compiled.

For assets and liabilities, documents like mortgage interest statements, loan agreements, and investment brokerage statements are important. Any prior IRS correspondence related to the tax year should also be included. Maintaining these records in an organized manner, preferably with copies, is crucial for a smooth audit process.

The Audit Process

The audit process begins with a formal notification from the IRS, typically sent by mail, never by phone or email. This letter, such as a CP2000 or 30-Day Letter, specifies the tax year under review, identified issues, and response date. A CP2000 notice indicates a discrepancy between reported income and third-party information, proposing tax return changes.

Upon receiving the notice, carefully review its contents to understand the specific items the IRS is questioning. Taxpayers generally have about 30 days to respond, and ignoring it can lead to further IRS action.

Response options include agreeing with proposed changes, providing documentation to support the original filing, or requesting additional time.

During the audit, the taxpayer or their representative interacts with an IRS auditor, submitting documentation and discussing disputed items. The auditor reviews the information, concluding with a determination. Outcomes range from no change to the original return, proposed adjustments resulting in additional tax owed or a refund, or a partial agreement. If a taxpayer disagrees with the findings, they have the right to appeal the decision within the IRS.