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Don't Fall Prey To The Common Audit Myths

 

January 18, 2011

It’s no secret that our country is going further and further in debt, especially in this recession as tax revenues have slipped. But raising taxes to lower the debt is neither popular nor do most economists think it will improve the situation.

One creative and surprisingly popular way the Government and IRS can raise money without changing any laws is called “Tax Enforcement” or as more commonly known, “IRS Audits.”

The IRS has been adding staff since 2005; and plans to continue increasing the number of auditors and audits. In 2010 alone, President Obama’s budget added $400 million to IRS enforcement activities. 

With the IRS making such a big push to raise revenues, you might want to reconsider whether you are an audit target. If you are like most Americans, you may believe you are “immune” from being audited as a result of one of several common beliefs.  

Don’t become a victim by thinking you are safe just because you believe (or have heard) one of the “Most-Common Audit Myths

"The IRS has approved my return because I’ve already received my refund."

Receiving your refund check does NOT mean the IRS has “approved” or verified your return. So you are not in the “clear” with the IRS just because your refund check has cleared your bank account. And it doesn’t matter whether you filed electronically or with a paper return (yes, some people still file on paper). When your tax return is initially submitted the IRS checks for obvious mistakes or suspicious deductions. If found these can reject your return. But the fact that IRS “accepted” your return doesn’t mean they won’t investigate further.

Most taxpayers don’t realize that audit determination takes place long after your refund check has been distributed. After you’ve filed, your return goes through another evaluation which compares your data with a computer model of averages for all returns. After this process, your return receives a DIF-Discrimination Information Function - score which can increase or decrease your chances for an audit. We would love to tell you exactly what is in this top-secret formula, but the IRS closely guards this information.

If your return receives a high DIF-score (which is not a good thing), it is pulled and reviewed by IRS agents. Their sole job is to determine which returns have the greatest potential for additional taxes, and in turn accrued penalties and interest.

In most cases, the IRS has three years from the time of filing to complete an audit. The IRS often begins the evaluation process three to four months after the filing deadline, but many returns aren't actually audited for up to two years later.

"I’m not afraid because the odds are in my favor"

This myth is statistically true. If you have an income of less than $25,000, your chances are less than 1% of being audited; and if your income is greater than $100,000, it is still less than 2%. But since returns are NOT randomly selected for audits your odds increase dramatically as your DIF score rises, even if your income is low (and you think you’re lucky).

"I’m safe because I file later in the season

The theory is that if you file an extension, the IRS has already filled-up their “audit bin” by October 15 (the last filing deadline), so your chances of being pulled are reduced.

No matter when you file, your return will still be run through the evaluation process and given that fun DIF score. So, once again, your chances of audit are dictated by your DIF score, not when you file.

"The IRS won’t (or can’t) audit me because I deal in a cash-only (or mostly cash) business."

Just because you have a predominantly cash business, the IRS can still determine the tax implications of your actions. If you get audited, the IRS may want to know how you’re able to live a millionaire’s lifestyle on only $20,000 (and telling them you save by “clipping grocery coupons” won’t cut it).

If you earn cash and then deposit it into your bank accounts, the IRS can easily follow the money. The laws for large cash transactions have been strengthened since the 9/11 attacks. If you purchase an expensive item with cash ($10,000 or more) the business selling the item (or investment) must file a special form with the IRS.

The IRS also has techniques that allow auditors to investigate (aka. “lifestyle audit”) your reported income to arrive at what they estimate is your “real” income. They basically want to know how you afford the lifestyle you live.

"I paid a tax preparer who filed and signed my return so they are on the hook if the information is incorrect."

You are partially correct with this one. With most tax professionals if they made a data-entry error, you are generally not liable for any late fees or penalties (like with the PRO-TAX Accuracy Guarantee.) However in this situation, you would still be liable for any additional taxes due. Some tax preparation firms (like PRO-TAX) may also offer coverage to pay for the additional tax liability up to a certain dollar limit.  

Honest mistakes happen all the time, but if you give false or incorrect information to any tax preparer, you are NOT shifting your liability to the individual or company filing your return.. Your best bet is to make sure you provide honest, accurate data to the person filing your return. Because even if they sign the return, you still have to prove that the information you provided was correct.

You have much better things to do than worry about an IRS audit. If you have received a notice from the IRS or have any tax questions, call PRO-TAX today at 1-800-809-2829. Let PRO-TAX deal with the IRS…so you don’t have to.