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Tax audit priority: High earners, S corps and partnerships

With no funding increase since 2000, the Internal Revenue Service has lost approximately a quarter of its enforcement officers. Fewer staff has tended to correlate with reductions in collections. This was the case last year as collections dropped to $52.4 billion from $57 billion the prior year.

As a result, the IRS has needed to prioritize who it audits. According to agency data released this month, its focus in fiscal 2015 slanted more toward high earners.

Who counts as a high earner? Why is the agency scrutinizing partnership and S corp returns more closely? This post will answer these questions.

Fewer field audits, but more letters

Those who earn more than $1 million are the most likely to receive an audit. In contract, audit rates for those who earn $200,000 or more a year have held relatively steady at roughly three percent.

In addition, the IRS has shifted away from face-to-face audits in favor of mail audits on narrower issues.

Automated document matching looks for any discrepancy between a third party bank or employer and the taxpayer. “Correspondence” audits examine narrow issues and may include a request to provide support for charitable gifts or gambling losses. These two types of audits have increased almost 35 percent.

More income flowing through partnerships and S corporations

The IRS also put extra resources into the review of these business structures. This may have been prompted in part by a Treasury Department study that noted the top one percent of households received two-thirds of partnership and S corporation income in 2011.

A tax overhaul that lowered individual rates resulted in an increase in the number of these entities, because they pass profits directly to owners and avoid corporate taxes.

The first contact from the IRS is by mail. Whether the initial request is for more information or lists a tax deficiency, it is always a good idea to consult with a tax attorney before responding.

Source: Wall Street Journal, “Ticket to a Tax Audit: $1 Million,” Laura Saunders and Richard Rubin, Feb. 22, 2016

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