IRS Audit? Don’t Panic

If your tax return has been selected for an audit by the IRS, you should not panic. An audit is merely the IRS's check to ensure your information is accurate and the amount of tax being paid is correct.

The fact you have been selected for an audit does not imply you have done anything wrong or that you have made a mistake. There is a variety of reasons why your return may have been selected, ranging from calculation errors, unusually large deductions or significant changes in income.

Selecting a return for audit does not always suggest that an error has been made. Returns are selected using a variety of methods. The IRS website notes possible reasons for an audit:

  • "Random selection and computer screening - sometimes returns are selected based solely on a statistical formula.
  • Document matching - when payor records, such as Forms W-2 or Form 1099, do not match the information reported.
  • Related examinations - returns may be selected for audit when they involve issues or transactions with other taxpayers, such as business partners or investors, whose returns were selected for audit."

Red Flags for an Audit

The elements of a return that will increase your chances for the scrutiny of an audit include the obvious, like not reporting income, sudden jumps or reductions of income, and higher than average deductions.

Others include various kinds of losses, especially if you run a small business. Also of interest to the IRS is self-employment. Because of the potential for abuse, the IRS tends to be suspicious of any aspect of the return where there is no independent verification.

How to Plan for an Audit

While no one wants to be audited, the simplest way to ensure any audit goes smoothly and as painlessly as possible is to maintain accurate and clear records. Home office deductions, rental losses, business travel and meal expenses, and vehicle use deductions are all legitimate, provided they are adequately documented.

Discussing how to do this with a tax attorney or tax accountant before you receive the formal notice of an audit from the IRS is the safest way to prevent an audit from resulting in tax deficiencies, fines and penalties. They can advise how develop the necessary record-keeping systems that will collect the data the IRS may be interested in.

An All-Seeing Eye

The IRS does not possess omniscience, yet, but even with their computer system problems, the increasing interconnectedness of electronic financial data make it more likely the Service can find suspicious or unexplained numbers. Proper documentation is your defense to allegations of abuse.