Who Faces the IRS Audit Spotlight?

Terry Selb

November 4, 2023

Who Faces the IRS Audit Spotlight?

Every year, millions of Americans file their tax returns with the Internal Revenue Service (IRS). While most taxpayers aim to accurately report their income and deductions, the fear of an IRS audit looms large for many. Various factors, such as income level, filing status, and the beliefs claimed, determine the likelihood of an IRS audit. In this article, we will examine the demographics and circumstances that often lead to a higher audit risk, shedding light on which group of people the IRS audits the most.

Income Level

One of the critical factors that influence IRS audit selection is income level. Historically, the IRS has shown a greater propensity to audit high-income individuals and businesses. Those with higher incomes are often subject to more complex tax situations involving numerous sources of income, investments, and deductions. The IRS is keen on ensuring that high-income taxpayers are accurately reporting their financial affairs and paying the appropriate amount of taxes.

Business owners and self-employed individuals, in particular, are more likely to be audited if their reported income appears inconsistent with industry standards or if they take aggressive deductions that raise red flags. Additionally, individuals with extremely high incomes may draw additional scrutiny from the IRS.

Filing Status

Your filing status, such as single, married filing jointly, married filing separately, or head of household, can also affect your audit risk. This is because joint filers combine their incomes and deductions, making it easier for discrepancies to surface.

Head-of-household filers, on the other hand, may be subject to audits if they incorrectly claim this status. To qualify as a head of household, you must meet specific criteria, including providing more than half of the financial support for a dependent. Any inconsistencies in these claims may trigger an IRS audit.

Self-Employment and Small Businesses

Self-employed individuals and small businesses are more likely to face IRS audits due to the complexities of their tax returns. The IRS closely monitors income reported on Schedule C (Profit or Loss from Business), as there is a higher risk of underreporting payment and inflating expenses in this category. Small business owners must be diligent in maintaining accurate records and reporting their financial transactions correctly to reduce their audit risk.

The IRS also focuses on the gig economy, where income may not always be reported through traditional employment channels. Independent contractors, freelancers, and those earning income through online platforms are increasingly under scrutiny to ensure they say all taxable income.

Deductions and Credits

Claiming excessive deductions or tax credits can raise red flags and lead to an audit. While it is essential to take advantage of legitimate deductions and credits, exaggerating or fabricating them can result in severe consequences. Common areas that attract IRS attention include charitable contributions, business expenses, home office deductions, and education-related credits.

The IRS uses statistical models and risk assessment tools to identify returns with discrepancies in these areas. If your deductions or credits seem unusually high compared to your income, you may face an IRS audit.

Random Selection

Not all IRS audits result from specific red flags or discrepancies. The IRS conducts some audits purely at random to maintain overall tax compliance.

By conducting random audits, tax authorities remind taxpayers that they can be selected for an audit regardless of their financial status, thus deterring noncompliance. Although the probability of being audited randomly is relatively low, it still exists.

Geographic Location

Believe it or not, your geographic location can also influence your audit risk. The IRS may target certain regions or areas with a higher prevalence of tax evasion or noncompliance. This approach allows the IRS to allocate its audit resources more efficiently and maximize tax revenue.

Additionally, living in a state with a high state income tax rate may increase your federal audit risk. The IRS often cross-references federal and state tax returns to identify discrepancies and inconsistencies.

Prior Audit History

If you’ve been audited by the IRS in the past and had issues with underreporting income or other tax discrepancies, your chances of being audited again may increase. The IRS keeps records of previous audits, and individuals with a history of noncompliance may remain under closer scrutiny.

While the fear of an IRS audit is widespread, it’s essential to understand that most taxpayers do not face audits. The IRS uses a combination of risk assessment tools, statistical models, and random selection to identify returns for audit. To minimize your audit risk, it’s crucial to maintain accurate records, report your income honestly, and take only legitimate deductions and credits. If you face an audit, it’s advisable to seek professional assistance to navigate the process and ensure a fair and accurate resolution.