Just a few days ago, I blogged on what types of US taxpayers needed to 'gird their loins' for a potential IRS tax audit in 2013 and in the next few years. I wrote: "If you are a high-income earner, if you have offshore accounts, accept the fact that you will be audited. You have IRS Tax Audit High-Risk Factors. If not this year, within the next few years at least." People have been asking me for more information on the subject, so here goes.
Who is in the bulls-eye? High-income taxpayers and foreign account holders
According to a recently released US Government Accountability Office audit report, the tax audit advice I gave is completely accurate. The GAO recommends that IRS increases the revenue generated through this exam and the IRS agrees.
There are four ways the IRS will increase a taxpayers' bill.
- Using the Automatic Under Reporter program (AUR). This is when a taxpayer files a tax return but doesn't include all W-2s, 1099s or K-1 reported to their social security number. Taxpayers who have received a CP2000 Notice are familiar with how this program works. The IRS sends a letter and asks the taxpayer if they disagree with the proposed increase in taxes. They can respond and dispute the increase or do nothing and the increase automatically happens.
- Through the Automated Substitute for Returns program (ASFR). A SFR is when the IRS "prepares" a tax return for someone who didn't file any tax return. The IRS can do because it has enough information about the taxpayer 1099s, W-2 and K-1s and the like to prepare a return for the taxpayer. When the IRS does this, usually the bill is much higher than if the taxpayer actually filed a tax return.
- By using something known a Correspondence Audit, or "Corr" audit. A "corr" audit is done via mail. For more about what a "corr" audit is and some of the problems with it, see this blog here.
- By sending a live person to investigate. The last way in which the IRS will increase a taxpayers bill is through a "Field" audit. The field audit is what most taxpayers think of when the think of an IRS audit.
Field Audits are the most expensive for the IRS, provide the lowest Return on Investment
The IRS has the lowest Return on On Investment (ROI) on field audits. The cost per case in each program is the following:
- AUR (Automatic Under-reporter Program): $52
- ASFR (Automated substitute for Return Program (ASFR): $72
- Correspondence Audits: $274
- Field Audits: $2,278.00
Based upon the revenue generated, the GOA calculated the follow ROIs (the higher the ROI, the best for the IRS) Which are:
- AUR: $22 per case
- ASFR: $31 per case
- "Corr" Audits $7 per case
- Field Audits $1.80 per case
So for each $1 in revenue the IRS expends on a field audit, it only brings in $1.80. This is the number the GAO wants to see rise.
NOTE: I doubt that these ROIs are this high. As I read the GAO report, there appears to be an implication that all increases in revenues are all paid. But of course, this is not true. Many of it goes uncollected and a lot of tax revenue —especially the large increases are ultimately settled using techniques and tax settlement programs such as the Offer in Compromise, Partial payment installment agreements within the CSED, CNC within the CSED or bankruptcy. Also, this report appears to assume that known of the increases are never reduced using the IRS audit reconsideration program.
GAO: O.k. to target field audits to target taxpayers making over $200,000
The GAO states, and the IRS agrees, that if more attention is paid to higher-income earner in field audits, the ROI for field audits will increase. Additionally, and this report does not mention it, but there is also the possibility of auditing a high-income earner and finding undeclared foreign bank accounts. In the case of an offshore bank account audit, the IRS auditors has to potential to vastly increase his or her ROI because the FBAR penalties on undeclared foreign accounts can be as high as 50% of account value…per year.
