The likelihood of getting an IRS audit is very low. We’re talking less than 1%. But in the event that it does happen to you, having Keeper by your side could really help with collecting your proof of expenses and staying organized!
The way it works is the IRS uses a computer and assigns a score to the return. The higher the score, the more likely it will be audited. You may be wondering, “What types of things will increase this score?” These items are commonly known as “flags”. Let's take a look below at the types of returns that tend to generate more flags:
- High net worth individuals - If you’re making above 1 million, it's likely you will also have a lot of write-offs. Large write-offs! A chance for the IRS to recollect some of this money back tends to generate a flag.
- Large charity contributions - You will typically raise a flag if you report a charitable donation that is more than 30% of your earnings. The cost of living is expensive, does it seem reasonable that you’d give away that much of your hard earned money? No, and it doesn't make sense in the eyes of the IRS either and is a big red flag.
- Erroneous data entry - Perhaps you transposed a number from your W2 form or forgot to include one of your 1099’s. This is a simple and honest mistake. It will likely generate an audit notice, but it is a rather simple fix and something that should not send you into a cold sweat.
- Self Employed - It’s no secret that if you’re a 1099 contractor or small business owner, you’ll have a higher chance to be audited as compared to a basic return with a moderate W2. As long as you are being honest and reasonable with your write offs, you’ll be OK! This category tends to raise flags when you include outrageous deductions that are out of the ordinary.
For example, let’s say you drive for Lyft and make $30,000 in the year. It’s time to file your taxes and settle up, but you decide to roll the dice and get a little creative with your supplies write-off and include a whopping $15,000! This would not be considered a realistic write-off amount for it’s category and based on the total earnings and will surely draw yourself some unnecessary attention from the IRS.
How will I know if I am being audited?
If you’re one of the “lucky” ones to hit the audit lotto, you will be notified by MAIL and only by mail.
Contrary to what many believe, you will not be contacted by phone, email, text or any other way aside from good old snail mail. The IRS will send the notice to your last known address, which is the address listed on your tax return.
If you have moved after filing your return, you should have the post office forward your mail to your new address. Another option is to change your address on file directly with the IRS using Form 8822. Forgot to do either and never received any of the audit notices? You’ll still have rights and can request a CDP hearing (collection due process).
Below are some examples of IRS notices:
In this first example, the IRS has not started a full blown audit yet. It is an examination and they simply want proof to support the unreimbursed employee write-offs. Sure it may seem like a burden and hassle, but as long as you have some proof to support your write-off, you can wrap things up pretty swiftly.
In this next sample letter, the IRS has already proposed changes and an amount due. At this point, you have a few options. You can either agree and pay in full, agree and pay in payments or disagree and begin collecting your proof and submit them for review.
How and when should I respond?
You will typically be given 30 days to respond, but if you need more time to gather information and documents, there will be a telephone number on the upper right hand corner of your IRS audit notice that you may call to request additional time.
Worst case scenario, you decide to completely ignore the notice and not respond at all. After a period of time and additional notices (reminders to respond!), you will finally be sent a bill for the additional tax owed as proposed by the IRS, along with penalties and interest, ouch! So in the long run, its best to respond with something, even if its asking for a little more time.
It is also recommended to include a letter in addition to the documents the IRS has requested. Here is a great sample response letter that can be used as a template or guideline when preparing your response: IRS sample response letter.
Most of the time, once you submit your proof and response letter, your audit can be wrapped up in as little as a few months. But if your situation is a bit more complex and perhaps you actually owe the tax and are hoping to have some of the penalties and interest lowered, you may want to hire an accountant, tax attorney or an enrolled agent to represent you.
What will I need to send in?
Paper receipts, bank statements and credit card statements are all legitimate proof for your tax write offs. In addition to that, the IRS will also accept cancelled checks, cash receipts and pay stubs as documentation for your write offs.
The key is that your document shows these 3 items:
- Transaction date
- Payee’s name
- Amount paid
Here is a detailed list from the IRS of other examples of what they may request during your audit.
What are the outcomes? Am I looking at jail time?
Once you have sent in your response, expect a minimum of 30 days before the IRS responds back (again, it will be by mail). At that point a few different things can happen:
No change: this is good! This means you have sent in all of the proof the IRS has needed and there is no change to your filed tax return and no additional tax due!
More documents needed: this isn’t necessarily bad, it just means the audit will continue on longer and you need to send in further proof for your write offs.
Agreement: this is where you agree with the IRS audit notice. Perhaps you simply made a mistake. That’s ok! You will NOT go to jail over this! But you will have to pay the additional tax due. Luckily there are payment plans available, so you won’t be stuck with the entire bill at once!