The New Army of IRS Agents

Does the recently passed Inflation Reduction Act of 2022 that provides $80 billion in additional funding to the IRS mean more agents and more audits?

IRS Funding in the Inflation Reduction Act

While the new law does dramatically increase IRS funding, let’s clarify some of the numbers and rumors being thrown around:

  • Of the $80 billion in additional funding, only $45.6 billion is designated for enforcement.

  • A large portion of the enforcement funds are for the hiring of 87,000 new agents, but that number includes replacement of existing agents due to attrition and retirement over the next 10 years.

  • Only a small portion of IRS agents (those assigned to the Criminal Investigations unit) carry firearms so you won’t be seeing an IRS SWAT team anytime soon.

  • Enforcement dollars will also be spent on more legal support for Tax Court and technology improvements for the IRS. These are both areas of much needed improvement.

  • The focus of increased enforcement per Congress and the current IRS Commissioner is high wealth tax evaders. Therefore, most of the enforcement resources will be focused on closing corporate tax loopholes and tracking down wealthy non-compliant tax filers.

  • The IRS has promised that the audit rate will not increase for taxpayers with under $400,000 in taxable income. If you are over that arbitrary $400,000 limit, you can expect your chances of audit to increase.

Now that we have dispelled the rumors around armed IRS agents on every street corner, let’s talk about what an IRS audit looks like and how you can be prepared.

Three Types of Audits

1) Correspondence audits – The IRS conducts the audit via letter correspondence and the initial request is often computer generated based on a red flag in the return. They typically ask for verification, error correction or additional documentation. These audits are generally focused on one area of the return like mileage or meal deductions.

2) Office audits – These audits are becoming less common and involves the IRS requiring delivery of specific documents to an IRS office.

3) Field audits – The most comprehensive of the audits as it includes the IRS physically coming to your business. They can request any forms, documents or previous years’ tax returns within designated limits and typically the entire return is audited.

An IRS audit can be complicated, arduous and long-lasting. The average business audit requires an entire year to complete. The best way to prepare for an audit is to be well prepared and have your records in order in real-time rather than trying to gather documentation after an audit.

Here are five ways you can be prepared for an audit

1) Consult a Tax Professional. The first order of business when you receive the IRS audit notification is to consult you tax prepared to determine the best course of action in responding to the audit. It is recommended that you use a licensed tax preparer like a CPA who is permitted to represent you before the IRS.

2) Find an Appropriate Audit Technique Guide (ATG). The IRS utilizes ATGs as a means of preparing for business audits in all kinds of unique industries. Even in a field audit, the IRS auditor is generally a new graduate with little to no business experience so they will follow the guide to identify areas of concern. They will not be interested in listening to your interpretation or understanding of IRS rules.

3) Get Your Records in Order. Or better yet, have your records in order before you even file your tax return. Unlike criminal law where the burden is on the prosecution, tax law puts the burden back on the you (the taxpayer) to have supporting documentation for every deduction. We highly recommend saving supporting documentation inside your accounting software like we do for our clients.

4) Understand Intentional vs Unintentional Failures. Taking intentional actions to reduce your tax liability is tax evasion and highly illegal. Tax evasion includes schemes like paying employees illegally under the table, banking with unreported cryptocurrency and not reporting cash deposits taken in by the practice. These actions, if large enough, can lead to felony charges and jail time. On the other hand, if the errors were unintentional, like not having meal receipt or mileage documentation, the IRS will likely just disallow the deduction and subject you to payment of back taxes and the related penalties.

5) Be Prompt and Prepared. The IRS will notify you well in advance of any audit and a prompt and professional response will help make the audit as smooth as possible. The worst thing you can do is just stick your head in the sand and hope it just goes away.

Jeff Gullickson