Now that we’re at the height of the tax season, audits come to mind. Small businesses and owners who are audited may face time, considerable expense, and lots of angst. As Tom Herman, who wrote the tax column for The Wall Street Journal for many years, said:
“Even if you are sure you are right and have all the records to prove it, fighting the IRS, one of the most powerful government bureaucracies on the planet, can be the ultimate nightmare. Seemingly routine struggles can drag on for years, leading to endless frustration and sleepless nights. Even those who eventually triumph may wonder if the fight was worth all the time, effort and expense.”
But how likely is it that you’ll be audited today? And should the likelihood of an audit matter?
Audit rates have been running low
For many years, IRS audit rates have been modest. According to the IRS Data Book for fiscal year 2023, for all returns filed for Tax Years (TY) 2013 through 2021, the IRS has examined 0.44% of individual returns filed and 0.74% of corporation returns.
Audit risk for small business owners varies with income level; the higher the income, the greater the audit risk. Audit risk for C corporations varies with assets. The audit risk for partnerships and S corporations is really negligible.
IRS personnel is diminishing
It’s been reported that the IRS is planning to cut its staff in half. About 7,000 probationary IRS employees have already been laid off. Those offered buy-outs to leave can’t do so until mid-May (remember that the tax filing deadline for individuals and calendar year C corporations is April 15, 2025). What does this mean? Remaining staff likely will be focused on processing returns and issuing refunds. Audits probably will take a back seat, but some audit activity will continue.
Looking ahead
According to a survey last year, 84% of Americans said it was not at all okay to cheat on their taxes. Given the current state of things, anyone thinking they can cheat with impunity is wrong. The IRS is still conducting audits and criminal investigations, albeit at lower rates than in the past.
Keep in mind that the IRS generally has 3 years from the due date of the return to commence an audit. That deadline becomes 6 years if there is an omission of gross income of more than 25%. This substantial understatement of income can also result if the basis of property is minimized in a sale with the effect of understating income by more than 25%. So, a return filed in 2025 for the 2024 tax year means that the IRS can send a notice about an audit by April 15, 2031, if there’s an omission of gross income of more than 25%. There is no time limit if fraud is involved. The IRS can look at any old return and audit it if there’s a question of fraud. Who knows where the IRS will be in 5 years or 10 years from now, and old returns may be reviewed.
How to protect yourself
There’s no way to fully bullet-proof yourself from being audited. But you can take certain steps to minimize your audit exposure:
- Report all your income. There are no minimums where this is concerned. For example, those with a side hack of selling regularly and continuously (i.e., conducting a business) on Etsy or other e-commerce platform need to report income even though modest; there’s no dollar amount before which income can be ignored.
- Properly report income what’s been reported to the IRS. If you receive Form 1099-NEC as an independent contractor or sole proprietor, IRS computers will cross-check the dollar amounts. Don’t ignore these information returns or mis-enter dollar amounts.
- Be sure your tax return preparer is legitimate. If a preparer suggests you take bogus positions on your return or fails to provide you with his or her Preparer Tax Identification Number (PTIN), get a new preparer. When the IRS finds preparers who are unscrupulous, their client list is usually audited.
Final thought
Even if you are audited, matters can often be easily resolved. In the government’s 2023 fiscal year ending September 30, 2023, 77.3% of audits are correspondence audit—the IRS sends a letter questioning something or asking for more information. The answer can be provided to end the matter. But if you have any concerns, engage a tax professional to represent you.
You can find other blogs written about IRS audits here.
