IRS Audit Selection Techniques
So just how does the IRS pick who’s going to get audited? Well, there’s a few more common ways.
Tax returns are “scored” using two different systems – Discriminant Function System (DIF) and Unreported Income Discriminant Function System (UIDIF). The DIF scoring system give the IRS an indication of the potential for the change in taxes that may be owed based on comparability to your returns to others, a logical comparison of certain deductions and credits to income, etc. Similarly, the UDIF scores your returns for potentially unreported income. The higher the score, the more likely your returns will be selected for examination.
This is perhaps the easiest way for the IRS to know whether you’re misrepresenting income. Your employer, your bank, your securities broker, etc. all file forms with the IRS reporting your income, your taxes withheld, your mortgage interest, securities trades you’ve made, your loan interest, contributions to your retirement accounts, etc. Where your return has different information, it will likely be selected to be reviewed further.
What happens when your employer audited and there’s a problem. Or your coworker. Or worse, your friend with the “big mouth”. Sometimes, the tax preparer you used makes the same dumb mistake on someone else’s return and you get selected (better think twice about who you’re using next time). Or let’s say the IRS is targeting the industry you work in – this may be lawyers, restaurants, construction workers, taxi drivers, truckers, etc.
Abusive Tax Avoidance Transactions
So you went to a promoter to save taxes and he told you what you wanted to hear. He had lots of supporting documents – pages and pages. It all looked very convincing and you kind of knew it was too good to be true. Well guess what. It was. Get caught up in this scheme and expect the wrath of the IRS examiner. They catch one and they’ll certainly look to get everyone else who participated. Your personal information is not confidential here. If this concerns you, consider amending your return even if you’ve already filed. You may be able to avoid the penalties as well.