The IRS issues vital tax statistics about individuals and businesses in its annual “Data Book” (also referred to as Publication 55B). The latest edition, covering the federal government’s 2010 fiscal year—from October 1, 2009 through September 30, 2010—was released in March 2011 and reveals the latest patterns in the tax agency’s enforcement efforts. Studying those trends can show what activities and circumstances may be most likely to put you at risk of a tax audit.
Not surprisingly, businesses and individuals generating the highest incomes are most likely to be targeted. But the IRS also continues to examine some taxpayers at all income levels to keep anyone from feeling audit-proof. Consider these key findings from the 2010 Data Book.
Types of audits. There are two main types of audits: correspondence audits, in which a letter from the IRS requests additional information about a return; and field audits, which tend to be more thorough and may be conducted by an IRS agent in your place of business, your tax advisor’s office, or in IRS offices. Almost 80% of the audits in 2010 were correspondence audits, a slightly higher percentage than in 2009.
In most cases, an audit will begin with a letter that raises questions about particular items on a return. If issues under dispute are complex, the IRS may launch a fuller examination of your personal or business records. But even most field audits are targeted to a specific area, and it’s rare for an entire return to be called into question. A return may have been flagged for investigation because of an entry on a specific line or a combination of two or three lines. If you do end up being audited, be forthright with the IRS agent but don’t volunteer information. As a practical matter, the agent will want to close the case as quickly as possible.
Audit rates. The overall audit rate for individual tax returns in 2010 was 1.1%. That means that about 1.6 million of a total 143 million individual tax returns were audited. But the likelihood of being asked for more information varied widely according to income level, type of return, and tax benefits claimed. For returns showing total positive income (TPI) of $200,000 to $1 million, 2.5% of returns not showing business activity were audited (up from 2.3% in 2009), while 2.9% of returns showing business activity were audited (down from 3.1%). For returns with TPI of $1 million or more, 8.4% were audited, compared with 6.4% the previous year.
Frequently, an individual return is audited because a particular line item “jumped out” as being sharply different from normal levels. Frequent triggers include unusually high deductions for mortgage interest, charitable donations, or medical expenses.
Business returns. For businesses (not including farms) that brought in total gross receipts of $100,000 to $200,000, 4.7% of returns were audited in 2010 (up from 4.2%). For businesses (not including farms) with total gross receipts of $200,000 or more, 3.3% of returns were audited in 2010 (up from 3.2%). The audit rate for all corporate returns, excluding those of S corporations, was 1.4% (up from 1.3%). For partnership and S corporation returns, the audit rate was 0.4% (virtually the same as in 2009).
Mathematical errors. The IRS caught about 10.5 million math errors on 2009 returns. Of these, 60.8% were attributable to the Making Work Pay Credit, 9% were for calculating other taxes, 4.9% were related to personal exemptions, and 1.3% were related to the first-time homebuyer tax credit.
Penalties. The IRS assessed 27.1 million civil penalties against individual taxpayers in the 2010 fiscal year (up from 26.4 million a year earlier). Of these, 57.3% were assessed for failure to pay taxes, 27.3% were for underpaying estimated taxes, and 13% had to do with delinquent payments. For businesses, 145,931 civil penalty assessments were made (up from 970,098 in 2009). Of those, more than four in 10 were for failing to pay taxes or underpaying estimated taxes.
Criminal cases. The IRS launched 4,706 criminal investigations in 2010 (up from 4,121 the previous year). This resulted in 3,034 referrals for prosecution (up from 2,570). Of those who lost criminal cases, 81.5% ended up being incarcerated (up from 81.2%).
These statistics and trends can’t protect you from an IRS audit, but they do point toward potential trouble spots, and underscore the importance of minimizing mistakes on your return.