While there is no standard formula to quantify audit risk, the Internal Revenue Service releases each fiscal year their IRS Data Book, which does offer some clues. Of course, if an 86-page tome of just-released audit statistics isn’t exactly at the top of your summer reading list, here are some of the more interesting highlights we’ve cherry-picked for you.
During the 2018 fiscal year, the IRS audited almost one million tax returns that were filed during the 2017 calendar year. This amounts to about .5% of the 195.75 million tax returns filed that year.
So to answer the often-asked question, a taxpayer’s chance of being audited is generally pretty small – roughly 1 in 200. That may bring relief to some, and perhaps embolden others. But to those who see an opening to get creative, the book’s section on criminal investigations may give you pause.
In 2018, 2,886 IRS investigations were initiated; 3,051 investigations were completed (including those conducted across multiple fiscal years); 2,011 federal indictments were handed down; 1,879 taxpayers were convicted, and 1,732 were incarcerated. In other words, if you are indicted for a tax crime, your chances are pretty good that you will end up in jail.
In addition, certain income-based circumstances typically send audit risks higher in various categories from year to year. Last year, individuals reporting no income (or a loss) had a 2 percent audit rate; those with incomes over $1 million, 3.2 percent; and those making over $10 million, a 6.7 percent rate. Estate, gift and other tax returns had an average overall audit rate of just .44 percent last year; but for estates over $10 million, the rate jumped to 31 percent. C-corporation returns averaged a .9 percent audit rate; but those reporting over $10 million in assets suffered an 8.1 percent audit rate.
Other than ensuring that your tax return is complete and accurate (which is why we put all our clients’ returns through a rigorous quality-control review process), there isn’t much else you can do. At the same time, we believe every taxpayer has a right to use the Internal Revenue Code to their benefit in order to legally take advantage of all available deductions, credits, transaction structuring, and so forth.
Like any body of laws, the Internal Revenue Code is not always black and white. There is often interpretation involved – which means taking a position that might be considered aggressive does not necessarily make it wrong.
At Withum, we take special care to guide clients through the grey areas while simultaneously operating within our profession’s strict standards. Ultimately, a large deduction or a low tax liability may indeed increase your chances of an audit, but that should never scare you, the taxpayer, into not claiming that which is rightfully yours.
For example, a taxpayer making $150,000 contribution to a 501(c)(3) charitable organization in a year where they happened to go from $1,000,000 down to $200,000 of taxable income would certainly increase their chances of an audit. However, because that contribution was made (and the proper support was furnished), the risk of audit is no reason to not claim the deduction due them.
Despite relatively low odds, the audit lottery is played every year (subject to the statute of limitations which generally expires 3 years after filing a tax return). So, what do you do if you get the dreaded audit notice?
While the likelihood of being audited is low, it is not zero. And so, if you are unfortunate enough to win the government’s lamest lottery, you can at least rest assured that we at Withum are here to advise, support, and defend you under audit. If you would like more insight about being audited or have any other questions, please fill in the form below and we will be in touch.