With the filing deadline for tax returns less than a month way, taxes and the IRS are probably on your mind. Although levels of tax-related anxiety vary by person, it’s safe to say that everyone fears unwanted IRS attention, especially an audit.
Despite layoffs at the IRS and aspirational talk from some quarters about replacing income taxes with tariffs, the IRS and its audits are not going anywhere. It is wishful thinking to believe that the federal government—even after the department, agency, and workforce cuts being made by President Donald Trump—could ever afford to eliminate the IRS and the tax revenue that it collects.
In fact, some fear that President Trump could use IRS audits as tools of retribution against his perceived political foes. My recent Forbes article on that topic, Can President Trump Force The IRS To Audit Your Tax Return?, explains the laws and procedures which make it difficult for political pressure to influence IRS audit decisions. Nonetheless, after I wrote that article I received emails from people who expressed disbelief that IRS audits ordered by presidents never happen.
Depending on which party controls the White House, suspicions and conspiracy theories have long arisen over the choice of IRS audit targets. Recent examples of such controversial audits include that of Pete Hegseth, the current defense secretary, when he was a Fox News TV host during the presidency of Joe Biden; audits of donors to Mitt Romney’s presidential campaign under President Barack Obama; and audits of former FBI director James Comey and his deputy Andrew McCabe during President Trump’s first White House term.
I turned to a seasoned tax expert, Professor Bryan Camp, for insights into how the IRS uses tax returns to select taxpayers to audit, how to handle IRS requests, and how likely it is that you can be intentionally singled out for IRS attention. He is a professor at Texas Tech University School of Law, a former staff member in the IRS Office of Chief Counsel, and a longtime tax attorney. Between teaching, doing academic research, and playing the fiddle at bluegrass jams, he kindly took time amid his busy schedule to answer my questions with his inside knowledge and personal flair.
The first part of the resulting Q&A is below. The second part I will publish early next week.
I thought President Trump is eliminating the IRS. Won’t tax-return audits go away?
Audits are likely to decrease for high-income taxpayers, but tax returns from low-income and middle-income taxpayers will probably receive the same level of scrutiny as they do now.
How does the IRS select someone’s tax return to audit?
The term “audit” is a general informal word. It’s not a word you find in the actual statutes that Congress wrote. Congress does not permit IRS to do “audits.” It permits (and requires) the IRS to perform “examinations.”
That is not just a minor semantic issue. The IRS is restricted on its “examinations” but not other compliance activity, so whether what the IRS is doing constitutes an “examination” can be important.
There are four main pathways to being selected for an examination: (a) computer selection; (b) informants; (c) related examinations; and (d) targeted enforcement of identified tax shelters.
Computer Selection
It is important to understand that every single return gets “looked at” by IRS computers. Each return gets two scores. First is the Discriminant Function System (DIF) score. The score is created by computer programs that are based on IRS experience with similar returns in the past. The second score is the Unreported Income DIF (UIDIF).
Returns with high scores get flagged by the computer systems. But then IRS employees have to review all of those to select some for audit. There are simply not enough humans at the IRS to actually audit all returns flagged by the computer. This screening process also identifies particular issues for audit.
Informants
If anyone thinks a person or corporation is cheating, they can contact the IRS and blow the whistle. The IRS will decide whether the information suggests a likelihood of improper reporting. If so, the IRS may open an audit or may add issues to an existing audit of that person or corporation. If the IRS completes the audit and collects unpaid taxes, then the whistleblower may be entitled to a cut.
Related Examinations
If an IRS employee is auditing one taxpayer and comes to believe that other related taxpayers may have made errors, then that can result in an audit. Such an audit might also happen if an IRS employee spots a whipsaw situation. That means a situation where two taxpayers take inconsistent positions that cannot both be correct.
For example, if an audit of Aaron shows payments received from Bob that Aaron reported as non-taxable gifts, but Bob took a business deduction for those same payments, then one of them is wrong! So the IRS might open a related-party audit on Bob to be sure that the payments are being properly reported by both taxpayers. Either they were gifts, in which case Aaron would be correct but Bob would be wrong, or they were actual business expenses and Bob was right but Aaron was wrong.
Readers should be aware that an IRS employee cannot open a related audit on their own. They must write a memo justifying the audit, and the audit must be approved up the chain of command. If a related audit is opened, then the original IRS employee is not allowed to conduct that related audit.
Target Enforcement
Taxpayers and their advisors get really creative in coming up with various schemes to avoid taxes. When the IRS learns of such schemes, the IRS puts out a notice about them and tries to learn what taxpayers are engaged in them.
Cryptocurrency transactions are one example of this kind of targeted enforcement. Other recent examples are micro-captive insurance schemes and conservation easement schemes. It’s not that those transactions are always illegitimate. But what happens is that taxpayers sometimes take a legit tax provision (like for micro-captive insurance or conservation easements) and then twist the heck out of them.
What are the different types of IRS audits?
The first point to realize here is that even if the IRS does not select a return for “audit” that does not mean the IRS does not review the return.
As I mentioned above, all returns get screened by IRS computers. But even those that do not get flagged for audit might still result in some action that the taxpayer needs to deal with.
For example, if the IRS computers see a Form 1099 that reports a payment to a taxpayer but the taxpayer’s return does not report that payment as income, then that will automatically trigger a computer-generated letter (such as the CP2000 notice) to the taxpayer that tells them to explain the discrepancy within 30 days or else the IRS computers will just assume it is unreported income and send the taxpayer a Notice of Deficiency.
That is not an examination. It is a taxpayer compliance tool. And it definitely requires a response.
The word “examination” is important because Congress restricts the IRS ability to conduct multiple examinations of the same taxpayer for the same tax period. So, using the above example, the CP2000 notice is not an “examination,” and so the IRS is not restricted in opening a later actual examination of that taxpayer’s return.
Again, a formal examination is not the only tool the IRS has to ensure compliance. But when an examination is opened, there are basically two types of examinations: computer and field.
About 70% of examinations are called “correspondence” exams. That is when an IRS computer writes a letter asking for specific information to address a concern, such as asking for documentation on a claimed deduction or tax credit.
Almost always this is done solely by computers. It’s called the Automated Correspondence Exam (ACE) function. The IRS does not text or email you. It sends everything by snail mail. You need to send back the information requested or else the IRS computers automatically send out a Notice of Deficiency proposing to assess additional tax.
If you do send back information, your examination will be moved to a human. That is why it is really important to make sure the IRS knows your current address. While these are not pleasant notices to receive, it is critical to respond promptly to them. The problem will not go away if you just try to wait it out. It will only get worse.
If an examination will require human brains, then that triggers a field examination. For simpler issues, the IRS will assign an employee who will ask you to come into their office. That’s called an “office examination.”
For more complex issues, the IRS employee, called a Revenue Agent, will visit your home or business. Even there, however, if you can work with the Revenue Agent to identify their concerns, you can often arrange to meet them in their offices. That is preferable because it helps keep matters focused on what the Revenue Agent has identified as important. It minimizes the possibility that the Revenue Agent might expand the audit because of what they see in the home or office.
Any way to fight the tax return audit request from the IRS?
Nope. It’s not a “request.” The IRS is not “asking” to do an examination. It’s telling you it’s going to do an examination! LOL.
What are some ways to reduce the risk of getting audited?
First, file correctly. Remember that pigs get fat and hogs get slaughtered. There is nothing wrong with minimizing your reported income and maximizing your reported deductions. But don’t get greedy. Stay under the computer radar.
For example, this year I bunched my charitable deductions. With the death of my parents and the death of my marriage, I did a lot of Swedish Death Cleaning. So I had a TON of stuff to give away.
We call those non-cash charitable donations. I gave stuff to Council for the Blind, Habitat for Humanity, Catholic Charities. I spread it out. But I made sure that none of my non-cash donations exceeded $500 in value for any individual donation and did not exceed $5,000 in aggregate, because if it did I might have to get an appraisal of the value of all the stuff. What I did not give away this year can wait until my next bunching year.
When I read the tax cases, I repeatedly see folks get picked for examination by reporting wage income and then attempt to wipe it out—and I mean wipe ALL of it out—with a HUGE reported tax return Schedule C loss. Uh-huh.
Sometimes that truly happens and is legit. If so, then just be prepared to prove it.
Have you ever been audited by the IRS?
Yes. Twice. First, my 1993 return was selected for examination because I reported $45,000 or so in wage income and $53,000 for tax code Section 162 trade or business deductions. I had been employed as an attorney by a D.C. law firm and then went to get my LL.M. at Columbia in New York City. That’s a Section 162 deductible expense.
But that was expensive, and I deducted not only my tuition and books and fees but also my food and lodging because that is what the law allowed. So, yeah, that attracted attention and I am sure the computers picked right up on that. But at least I was prepared and the Revenue Agent doing the audit found no deficiency.
The second time I was audited was when I was an IRS employee. Readers should understand that IRS employees are held to a much higher standard than other taxpayers.
For example, they can be fired for simply filing late (as I will explain in part two of this Q&A). In my case, there was a $12 discrepancy between what I reported as income and what a third party had reported paying me. Yep, a whopping $12. Now for regular taxpayers, the IRS would not care about a $12 error. But the special office that audits IRS employees does care. So I had to show how the third party’s reporting was erroneous.
Stay Tuned For Part 2
In the second part of this Q&A, to be published next week, Professor Camp provides more practical tips and stories explaining how to avoid getting audited by the IRS; what to do if you are audited; tax-return areas that are likely to trigger an audit; and whether someone at the IRS can intentionally select you for an audit or release your tax information.