19 November 2017

Affluent Households More Likely To Be Audited

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The Internal Revenue Service's most intimidating weapon is the power to audit—and affluent taxpayers are more likely to be the target. Fewer than 1% of taxpayers endured one last year, according to IRS figures, and they are getting rarer as the agency faces funding cuts. But while the audit rate has fallen over the past five years for taxpayers who earn less than $200,000, the rate has risen for those earning $200,000 to $1 million.

The increase was particularly sharp for people earning $1 million or more. Nearly one in nine of those taxpayers was audited last year compared with fewer than one in 15 in 2009.

Taxpayers facing an audit also are dealing with an agency that is underfunded and often unresponsive. IRS Commissioner John Koskinen recently told Congress the agency won't be able to answer 18 million phone calls this year, nearly 40% of the calls it receives, and that the wait time for those who do get through will be about 25 minutes, up from 10 minutes in 2010. More than half the letters taxpayers send to the IRS this filing season will take longer than 45 days to answer, he added.

The IRS training budget has dropped 87% since 2010, which is affecting audits of all types, experts say. In a statement, the IRS said that "taxpayer rights are a critical part of the federal audit process and the IRS expects all employees to communicate and respect these rights. We are committed to running a fair and balanced audit process."

Taxpayers trying to stay out of the IRS's cross hairs should first understand what can put a bull's-eye on their backs. Reporting a high income can increase the likelihood of an audit, but other items can also invite scrutiny, such as using a tax preparer who has previously run afoul of the IRS or entering suspiciously round numbers on a tax return.

One of the main tools the IRS uses to identify potential audit candidates is a computer program that compares individual returns with various norms to find outliers, such as unusually large deductions for charitable donations. The program generates what is known as a DIF score—for "discriminant function"—that can mark a return for closer attention. Taxpayers who want to avoid an audit should be alert to the risk of standing out from the crowd.

In addition, the IRS is zeroing in on certain issues it once ignored that often affect high earners. For example, the IRS often takes a close look when deep-pocketed taxpayers claim a large loss in one area that offsets big profits in others. The agent then questions whether the loss was deductible for that year or should have been deferred, which lessens its value.

Whenever the agency writes you, respond—even if all you do is send another copy of a letter you sent previously, experts say. Unfortunately, the IRS doesn't accept email from taxpayers.

Experts recommend communicating via certified mail and keeping careful track of the receipts.

Click here for the original article from the Wall Street Journal. 

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