An audit is what occurs when the IRS decides to scrutinize your return in detail so as to verify your figures and make sure that you have documented all deductions and meet criteria for all credits you are claiming. The IRS routinely audits or verifies fewer than 2% of all tax returns filed, so your odds for being audited are very low. Even so, any return can be audited, so you should always be prepared for the possibility.
The primary reasons the IRS will flag a return for an audit include:
- You claim tax deductions that seem excessive relative to your income level.
- You claim deductions that lack documentation or require explanation.
- You own or work in a business that receives payment in the form of cash or tips.
- Erroneous tax items appear on your return.
Clearly, the best way to avoid being audited is to make sure that your deductions are appropriate and that you have submitted all necessary supporting documentation along with your return when you file.
What if you have done everything you were supposed to and you are still selected for auditing? The best advice is to avoid panicking. Not all audits require a face-to-face meeting with an IRS auditor (so, dismiss those thoughts of being grilled in secret-police-like fashion). About one third of all audits amount to letters asking for additional information or for supporting documentation. If you get one of these letters, read it carefully. The IRS may have just a few questions for you and a full audit may not be required. If so, you will simply need to send the required documentation required to support your return. Be sure to send copies, not originals of this documentation, however. You should consult with a tax professional in the event that the IRS is questioning your claim for deductions or credits. After getting professional advice, respond to the IRS in writing. Send your written response within the time frame indicated on the IRS letter. If your reply is judged adequate by the IRS official in charge of your case, the matter will likely be quickly resolved.
If a full in-person audit is required of you, the first thing you should do is to gather together all of your financial records for the tax year being audited. You will need this financial documentation to support the claims you have made in your tax return. The reason why it is recommended that you hold on to your financial documents for seven years after they have been filed, is so that you can have access to those documents in the event of an audit.
After you have assembled your financial documents for the year in question, talk to any people who helped you prepare your tax return that year. If you are unable to speak to the same person(s) who helped to prepare your return, then at least consult with another qualified tax professional. A tax professional can help prepare you for what to expect during the audit process and can assist you in preparing your records. Consulting with a tax professional is also a good idea because a tax professional can advise you concerning your rights with regard to an audit. You generally have the right to representation (by an accountant or attorney), for an example, and the right to appeal the auditor's findings.
When meeting an auditor for an in-person audit, bring copies of all applicable financial documents that have bearing on your tax return for the year in question. There is no need to bring literally all documents. Instead, bring only documents that relate to the audit. You will want to have these documents organized and copied so as to be able to provide the auditor with a full copy while retaining copies and the originals for yourself. It is also helpful for you to bring copies of the worksheets you may have used to get your totals. Access to such worksheets will help you answer questions about how you preformed your calculations.
When the audit process is complete the IRS representative will list any unresolved issues with your return and then file a report detailing the proceedings and any judgments he or she has made. If you are dissatisfied with the auditor's findings, you can appeal the audit with the IRS. The appeal process may theoretically be raised to the level of the U.S. Tax Court when necessary, although such an appeal process would be cost-prohibitive for any human being of normal wealth.