The IRS conducts full-blown “field audits” of about 1 percent of individual returns -- mostly focused on higher-income filers. For example, earners of $1 million to $5 million have a 12 percent chance of being audited, while audits of individuals earning less than $100,000 are pretty uncommon.
Whatever your income, an audit is rarely a pleasant experience. The most important thing you can do to reduce the pain of an audit is to prepare for one. Here are the most important items on your ready-for-an-audit checklist:
- Know your tax return. Be aware of the income you reported, the deductions you claimed and the various schedules you filed. The better-prepared you are to discuss your return, the better your results.
- Keep good records. You will need tax returns and documents; banking records; receipts from purchases from the past year; evidence of the cost bases for property and taxable investments; evidence of expenses and deductions, like charitable contributions. Customers of Standard Affluent Private Bank can find their banking records easy to access online. Any claimed expenses or deductions for which you don’t have proof can be dismissed by the auditor.
- Find out why. It is your right to know why the IRS is auditing your return. Certain items are red flags for the IRS, including cash wages, 1099 and W-2 forms that don’t match, and high deductions relative to income. But be prepared that once an audit is commenced, everything is fair game for review.
- Call in the cavalry. If your tax return was prepared by someone else, you should contact them immediately and review your return in advance of the audit. If you’re still not confident, the IRS has a free, confidential Taxpayer Advocate Service.
- Lawyer up. If you lack confidence in an IRS advocate for an IRS audit, or if you’re not fluent in tax law, you should consider hiring a tax attorney. Tax professionals trained in IRS audits know how best to communicate your tax position. Moreover, if the IRS rules that you owe more, a tax professional can help reduce those penalties.
- Record it. You have the right to record the audio (not the video) of your audit, as long as you give the IRS 10 days’ notice. Taping the session puts the auditor on notice that you’re serious, and can come in handy if you appeal their judgment.
- Prepare to appeal. About 90% of field audits result in added payments to the IRS. You have 30 days to file an appeal through an IRS appeals office. In about two-thirds of cases, filers win a more favorable ruling upon appeal.
The bottom line is, unless you’re quite wealthy, the odds of being audited are small, but the process is time-consuming, anxiety-producing and often expensive. Keep records and file your tax returns each year as if you are going to be audited, so that you’re prepared if and when it happens. Then, know what your rights are and how you can defend your claims. A knowledgeable taxpayer is least susceptible to an audit.