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How to Prepare For an IRS Tax Audit

How to Prepare For an IRS Tax Audit

IRS audits have recently become uncommon with a drop of  5.3% since 2012. The trend will continue because of new responsibilities on the department and budget cuts. Hence, only a few IRS agents are available to perform IRS audits. The number of agents to conduct examinations has been lower over the past three decades. 

The Internal Revenue Service (IRS) has selected over 1,481,966 tax returns for audit, or only 1% of taxpayers, but just the word ‘tax audit’ is enough to put fear in the minds of many. If you ever get chosen for an audit, there should be nothing to worry about as long as you are prepared and haven’t committed any tax fraud. 

Why were you chosen for audit? 

If you’ve been chosen for an audit, it doesn’t mean there was an error made on your tax return. Individual returns of tax payers are chosen with various methods, such as – 

  • Random – Some returns are selected by a screening process at random, which often cover statistical formulas which covers returns of the average or normal range. 

  • Partner/Related Returns – A return may often be chosen for audit when it covers issues or transactions with various tax payers. Usually, it is found because investors or business partners return being audited. 

  • Document Mismatch – Sometimes even a slip of finger when entering information in case of return could cause submission of improper information. It could cause 1099’s or W-2 forms which are reported but don’t match details offered. 

Type of audit you are going to face

Basically, there are three types of audits performed by the IRS. According to the type of audit scheduled for you, it may be quite convenient. The IRS will send you a notice before starting the process. In this letter, you will know what kind of audit is scheduled. 

Form 566 (CG) Correspondence Audit – This is the easiest type of IRS audit. A taxpayer usually gets this audit if they miss something simple on return (for ex. Signature) or if they need more explanation of something like itemized deductions. 

Form 3572 (In-office audit) – These types of audits are sent to people most commonly who have small businesses or are self-employed. It is important for a taxpayer to visit the local IRS office to explain some things on a tax return. Usually these audits take hours but are resolved on the day of visit. 

Form 4564 (Field Audit) – In this type of audit, IRS Field Representatives are sent to your office or home to conduct an audit. Usually, it is because there is a lot of information to carry or send via email to the nearest office. These are the most complicated types of audits and can take several visits to resolve the issues. 

What are your legal requirements? 

There are several laws you should keep in mind about the retention of your business and personal records. All business records about any assets must be kept for as long as the asset is retained. You should keep the payroll records for all personnel for 6 years along with the current year. The IRS may cover returns that are filed within the past three years when conducting an audit. They may also cover additional years in case of substantial error. But you shouldn’t go back further than six years. 

Gather Important Documents

After knowing the type of audit to be performed, prepare your supporting documents. In the letter, the IRS will include any specific document which is required to review during audit. 

For an easy audit, you should have all the documents required. Make it a habit to keep all documents organized in advance. When you file the return every year, mention a file which has all supported documents along with it. 

Along with a copy of 1099s or W-2s, you should keep a copy of the return which is submitted with the IRS. If you haven’t managed to keep the cleanest of records for the year, you should go through the return and recollect information to get those figures. After knowing where those figures came from, you may find them once again. This way, you can gather all the documents required as early as you can for easy and fast audit.