What Are the Odds of Getting Audited?

A tax audit is a formal examination conducted by the Internal Revenue Service (IRS) to verify the accuracy of an individual’s or organization’s tax return. This process reviews financial records, accounts, and other relevant information to ensure reported income, deductions, and credits align with tax laws. The primary purpose of an audit is to ensure compliance with federal tax regulations.

Understanding Overall Audit Rates

The likelihood of an individual tax return being audited by the IRS is generally low. Only 0.2% of individual income tax returns were audited in 2020 and 2021, meaning about 1 in 500 returns annually.

Audit rates vary significantly based on income levels. Taxpayers with annual incomes exceeding $10 million faced a higher audit rate (2.4% in 2020). In contrast, individuals earning between $50,000 and $75,000 had a much lower audit rate (0.1% for 2020 returns). Low- and moderate-income taxpayers claiming the Earned Income Tax Credit (EITC) also experience a higher audit rate (0.9% for 2020 returns).

Factors That Increase Audit Likelihood

Certain characteristics and reporting patterns on a tax return can draw increased IRS attention. One common factor is reporting significant losses for multiple years, particularly on Schedule C for self-employed individuals. This raises questions if the business consistently operates at a loss without a clear path to profitability.

Discrepancies between income reported by a taxpayer and information received by the IRS from third parties (W-2s or 1099s) are a frequent trigger. When reported income does not match employer or financial institution data, it creates a red flag. Unreported income from any source, including interest, dividends, or cryptocurrency transactions, can lead to an audit.

Taking unusually large or disproportionate deductions relative to income can increase the chance of an audit. For example, claiming very high charitable contributions out of line with reported income may invite scrutiny. The home office deduction, while legitimate, can be a trigger if the claimed space is not used exclusively and regularly for business purposes.

Operating a cash-intensive business can lead to increased IRS attention due to less of a paper trail. Math errors or inconsistencies on the tax return, even if unintentional, can signal a need for further review. Taxpayers with a history of non-compliance or prior audits may face a higher probability of future examinations.

Different Types of Audits

The IRS utilizes several methods to conduct audits, each with a different scope and level of formality. The most common type is a correspondence audit, which is conducted entirely by mail. These audits typically focus on simpler issues or specific items on a tax return, such as missing documentation or minor discrepancies.

For issues that require a more in-depth discussion, the IRS may conduct an office audit. This type of audit requires the taxpayer to visit an IRS office for a face-to-face meeting with an examiner. Office audits are generally used for more complex matters than correspondence audits, often involving itemized deductions or business profits and losses.

The most comprehensive type of examination is a field audit. In a field audit, an IRS agent visits the taxpayer’s home, business location, or the office of their tax professional. These audits are typically reserved for complex individual or business returns and can involve a thorough review of extensive financial records.

Steps After Receiving an Audit Notice

Receiving an audit notice from the IRS can be concerning, but it is important to address it promptly and systematically. The first step is to carefully read the notice to understand its contents. This includes identifying the tax year being audited, the specific items being questioned, and the type of audit being initiated.

Next, gather all relevant records and supporting documents pertaining to the items the IRS is questioning. This may include receipts, invoices, bank statements, and other financial records that substantiate the information reported on your tax return. Keeping these documents organized and readily accessible can streamline the audit process.

Consider consulting with a qualified tax professional, such as a Certified Public Accountant (CPA), Enrolled Agent, or tax attorney. A professional can help you understand the audit process, assist in gathering necessary documentation, and represent you in communications with the IRS. This can be especially beneficial if the audit is complex or if you are unsure how to proceed.

It is important to respond to the IRS by the deadline specified in the notice. Ensure that all requested information is provided accurately and completely. When sending documents, it is advisable to send copies rather than originals and to keep detailed records of all correspondence with the IRS.