The IRS and Your Home

Do I have to let the IRS into my home?

Unless the IRS has a court order to enter your home, which is pretty rare, it is illegal for them to enter your house without an express invitation from you. During a field audit, the auditor will request to enter your house to discuss your audit or to verify deductions such as a home office. You can forbid them to enter, but it is more likely than not any home-related deductions you claim will be disallowed. If you don’t want the auditor in your home, seek professional representation and have the meeting held at your attorney’s office.

Can the IRS take my house?

The short answer is yes.

Unfortunately for taxpayers, the IRS is authorized by the Internal Revenue Code to seize a house or a business. The IRS has access to almost anything you own in order to collect back taxes, including your home. While the IRS can go right on ahead and take money from your bank account or wages, there is a process the agency must go through before acquiring your home.

The procedure of seizing your home depends on the size of the case. If you owe less than $5,000 in back taxes to the IRS, it is illegal for them to take your home. Before they even consider taking such a drastic step, the IRS must determine the equity of your home. If the equity of your home will not produce significant funds, they won’t even consider seizing it. Equity is determined by the quick sale value of your home which is a 20% reduction of the full market price. For example, if your house is worth $350,000 and the mortgage on it is $350,000, there is no equity in the house home and the IRS won’t seize it. On the other hand, say you were to owe $335,000 and the quick sale value was $370,000? The IRS is permitted to seize the house and use the remaining $35,000 to put towards your debt. The final hurdle the IRS must jump through in order to obtain your home is to get a court order from a U.S. District Court Judge or Magistrate. While the IRS can go directly into your bank account unchecked, they must get permission before taking your home. Once approved, the IRS will then padlock your house, post notices to the public, and sell any assets to the highest bidder.

It’s important to note that if you have already made a payment plan such as a pending Installment Agreement or an Offer in Compromise with the IRS, it is illegal for them to seize your residence.

If you owe money to the IRS, don’t expect them to immediately claim your home. Home seizure is a last resort for the IRS that usually results from uncooperative taxpayers. If you are being audited, owe money in back taxes, or are in fear of losing your home to the IRS, contact the Law Offices of Jef Henninger for professional assistance from lawyers who work aggressively to ensure the best possible outcome for our clients.

 

 

What to do when the Auditor Stops Contacting You

My auditor hasn’t contacted me in a couple of months, what should I do?

In this scenario, it’s best to do nothing at all. The IRS doesn’t have an unlimited amount of time to finish your audit, they have 28 months since the date you filed your return to complete the audit. If the auditor is no longer contacting you, there is no point in trying to reach out to them. Why help them if they’re running out of time?

There are a couple of different reasons that the auditor has stopped contacting you. Although not likely, the auditor in charge of your case could’ve been transferred or fired mid-audit. Your case may also be dormant in a pile of other cases awaiting processing. If you’re really lucky, the auditor may have missed the deadline to close your case. You don’t ever want to remind the IRS to finish your audit nor do you want to give them more information than they request, so if the auditor doesn’t contact you, don’t go out of your way to reconnect.

Only in one instance should you take action after not receiving word from your auditor over a long period of time. The auditor is required to cut off contact if the IRS finds sufficient evidence of tax fraud and refers your case to the IRS Criminal Investigation Division. Unless you intentionally commit fraudulent activities and until you’re contacted by an IRS special agent, you shouldn’t have anything to fear from the auditor ending correspondence. In the situation that a special agent does contact you, however, seek out professional representation from the Law Offices of Jef Henninger immediately.

What documents will the IRS want to see?

Don’t wait until the IRS audits your return to start collecting and organizing your financial records. Keeping track of documents such as receipts and payroll reports can mean the difference between sufficiently substantiating your claims and having to pay hefty fines.

The IRS is going to request different documents for different situations. For example, if you’re running a small business and you deduct your travel expenses claiming they’re business-related, the IRS is going to want to see a mileage log and receipts for gas and lodging. You will also have to provide some proof that the travel was business-related. If you vacation in Cancun and write it off as a business expense, that’s called fraud. If you have the documents to show that your trip was to meet with a client, however, this would be a legitimate deduction.

The Information Document Request

For any taxpayer unlucky enough to be audited, it will be impossible for them to know what documents the IRS wants to see until they receive an Information Document Request (IDR) in the mail. The IDR, also known as IRS Form 4565, usually arrives with an audit appointment letter that details what steps need to be taken.

The IDR itself is a list of specific documents the taxpayer must gather in order to substantiate questionable items on their tax return. The number of IDRs sent to the taxpayer depends on the type of audit and its complexity. Sometimes, the IRS only needs to verify one item and can settle the audit after one IDR. In more complex cases, you may have to gather a variety of documents from an initial IDR, meet with the IRS in person, then receive more IDRs to support what was discussed at the meeting.

The Information Document Request will list out all specific documents you must deliver to the IRS for examination. The documents vary on a case-to-case basis, but frequently requested items include:

  • General ledger
  • Copies of  loans, leases and material contracts
  • Cash disbursements journal
  • Accounts payable ledger
  • Trial balance
  • Financial statements
  • IRS Forms 940, 941 or 944, 945
  • Forms W-2
  • IRS Form 1099
  • Collective bargaining contracts with employees
  • Loan statements
  • Bank statements
  • Cancelled checks
  • Receipts
  • Listing and invoices for fixed asset purchases
  • Payroll reports

Once you finish reading your IDR, you should begin gathering the requested documents as soon as possible. Be sure to make copies and to never send in the original copy. If you can’t find a specific document, get in contact with whoever originally issued the document immediately and request a duplicate. The IRS doesn’t accept missing documents as an excuse. Do not ever send the IRS more information than they asked for, this will only come back to haunt you if the IRS finds another mistake.

If you are being audited, you don’t have to go at it alone. The Law Offices of Jef Henninger work aggressively to assure our clients the best possible outcome from their audits.

Appealing the Audit

The IRS has finally completed poking through your financial history and has concluded your audit. Upon completion, you will receive an IRS examination report in the mail that details all the proposed changes, penalties (with interest), taxes, and possibly even refunds you will receive.

If you agree with the findings of the IRS, all you have to do is sign and return your copy of the report. Pay your fines, and your audit problems are over.

If, however, you disagree with the findings, you have the right to appeal the IRS’s conclusions.

How to appeal an audit

The first step in appealing your audit is refusing to sign and return your copy of the examination report. Doing so results in the IRS sending you a 30-Day Letter that lists the steps of appealing the audit. You are given 30 days from the date listed on the letter (not the day you received it) to file your official protest, although extensions are usually given upon request. The IRS requires that your protest includes each of the following:

  1. Your name, address and a daytime telephone number
  2. A statement that you want to appeal the IRS findings to the Office of Appeals
  3. A copy of the letter you received that shows the proposed change(s)
  4. The tax period(s) or year(s) involved
  5. A list of each proposed item with which you disagree
  6. The reason(s) you disagree with each item
  7. The facts that support your position on each item
  8. The law or authority, if any, that supports your position on each item.\
  9. The penalties-of-perjury statement as follows: “Under the penalties of perjury, I declare that the facts stated in this protest and any accompanying documents are true, correct, and complete to the best of my knowledge and belief.”
  10. Your signature under the penalties of perjury statement

Accepting your request to appeal

Note that the IRS is not legally required to grant your request for appeal. Your chances of the IRS approving your appeal request are likely if you can prove any of the following:

  • You did not receive proper notice for the audit
  • The IRS ignored documents that would reduce any taxes or penalties you owe
  • You have new documentation to support your case
  • You filed an accurate tax return to replace the tax return filed by the IRS during a year in which you failed to file
  • The IRS made math errors regarding the amount of tax owed

Denying your request to appeal

Once you receive IRS Form 4549 that details the adjustments to your tax return, you must be certain that you do not want to appeal before you respond to the IRS. Your request to appeal can be denied if you’ve already made a payment or reached a closing agreement with the IRS. Your appeal can also be denied if a United States Tax Court issued a final determination of your owed taxes.

Before you file for an appeal, you must also be sure that the reason you’re appealing is viable. Your appeal must be in accordance to tax laws and relate to a disagreement with the IRS’s conclusions. Cases cannot be appealed for moral, religious, political, or constitutional reasons.

Your letter of protest to the IRS should make it clear which changes you disagree with and why. It’s important to include as much documentation that supports your claim as possible. You can expect a response from the IRS in approximately 30 days, however you should be aware that any penalties and interest you owe from the audit will still accumulate during this process.

Depending on the amount of money you owe, the appeals process can proceed in one of three ways.

You owe less than $2,500

If the IRS claims that you owe less than $2,500 in taxes, you can take your appeal straight to the auditor. This will not go to the IRS Office of Appeals but will be handled by the agent that conducted your audit. A request by phone or in person should be enough, but it would be smart to write a protest letter anyway or fill out IRS Form 12203, the Request for Appeals Review.

You owe between $2,500 and $25,000 (Small Case Request)

If the IRS claims that you’re responsible for $2,500 to $25,000 in tax liability, you can request an informal appeal called a small case request. Although it is informal, it must still all be in writing. You can either fill out IRS Form 12203 or write a letter of protest that must include your contact information, tax ID numbers, a summary of the disputed items, and a statement of intent to appeal. IRS Form 12203 is a form that allows you to list out any objects on the IRS examination report that you disagree with and why. The form will ask for your Taxpayer Identification Number which is your Social Security Number if you’re filing as an individual or your Employer Identification Number if you’re filing as a business. Once you complete the form or the letter of protest, have it mailed to the office that conducted the audit.

You owe more than $25,000 (Large Case Request)

In any case in which you owe upwards of $25,000 to the IRS, known as a large case request, your only option to appeal is to write a formal letter of protest. The letter must contain:

  • Your name, contact information, and SSN
  • A statement of appeal of the IRS conclusions
  • A list of the findings you disagree with and explanations as to why they are incorrect
  • The tax periods involved
  • Documents supporting your explanation
  • A copy of your 30-Day Letter
  • A copy of your examination report
  • Your signature with a penalty under perjury clause

Send the letter to the local IRS office and an appeals officer should respond within 90 days. If you do not hear back within 90 days, follow up with the Office of Appeals to get an update on your appeal.

The IRS Office of Appeals

The IRS has an independent branch that conducts appeals called the IRS Office of Appeals. This office is made up of experienced employees, most of them previously auditors, who evaluate examination reports and assess the taxpayer’s arguments. The original auditor plays no part in this process. The goal of the Office of Appeals is to resolve tax disputes and to avoid court. Unlike the auditor, appeals officers have no interest in fining you or raising funds for the IRS. Appeals officers work to avoid litigation and to compromise with taxpayers, not to uphold whatever the original auditor concluded. Once they approve your appeal request, the Office of Appeals will schedule a conference with you.

The Appeals Conference

After submitting your request to appeal, you generally have 60 days to prepare for the appeals conference. The appeals agent will contact you and arrange a meeting in their office. In preparing to make your case, you should be sure to:

  • Solidify any arguments you plan to make
  • Acquire a copy of the auditor’s file from the local IRS office (this is done by mail and can take up to a month)
  • Prepare and organize all necessary documents, statements, receipts, and forms that support your argument
  • Get professional help from a tax professional permitted to practice before the IRS

Organization is an important component to winning over the appeals officer. If you go into the hearing unprepared with a mess of unorganized files, you probably won’t get your point across nor will the officer be willing to listen. The burden of proof is on you, so you must make your case as clear as possible. Organize your documents—receipts, bank statements, cancelled checks, etc.— according to each item you disagree with from the examination report. File them into folders and provide a brief explanation as to why the auditor was incorrect on each item. If organization isn’t your strong suit, hiring a bookkeeper is recommended.

The conference with the appeals officer is informal. There will be no testimony or procedures for evidence like in a trial, nor does the IRS record these meetings. You can record it yourself if you wish to as long as you notify the IRS several days in advance. This isn’t recommended, however, in that the officer will view you as difficult and be less willing to cooperate.

When negotiating with the appeals agent, keep in mind that the Office of Appeals settles disputes on what is known as the hazards of litigation. The hazards of litigation is the chance that the IRS would lose in tax court. If you can convince the officer that your case would win in court, they will lower your tax bill to avoid an unsuccessful case.

Once you prove your case, you should request that the officer waive or reduce the tax penalties placed on you by the auditor. The officer will be more lenient if you speak in terms of percentages as opposed to flat dollar amounts. Do not demand anything. This is a compromise, so you should be willing to pay at least part of the proposed adjustments. Your willingness to compromise will influence the officer’s willingness to compromise. Once you reach a settlement, the hearing is over.

You can then expect IRS Form 870, Waiver of Restrictions on Assessment and Collection of Deficiency in Tax and Acceptance of Over-assessment, within your mailbox within the next couple of months. Before you sign and return the form, read it and reread it again. Signing the form prevents you from taking the IRS to tax court or take any further actions regarding your audit. Be sure that the numbers and reductions on the form match the compromise you made during the hearing.

If you still do not agree with the IRS’s findings even after the appeal, your only option is to take your case to the U.S. Tax Court.

Advantages of appealing an audit

The pros to appealing an audit are obvious. You can reduce and in some situations completely eliminate any extra taxes or penalties you owe to the IRS. The process is completely free, too, unless you hire professional help. Chances of a favorable outcome are also high. IRS statistics show that approximately 70% of cases are settled and lead to a 40% reduction in penalties originally assessed by the auditor.

The appeals process can also delay the due date of your assessed tax bill for months at a time, giving you more time to raise money or consider payment plans.

Disadvantages of appealing an audit

There are a few situations in which appealing an audit can potentially be harmful to you. Although it is rare, the appeals officer may find suspicious items on your return that the auditor had missed. The last thing you want to happen is to be criminally investigated on suspicion of tax fraud. If you are afraid of this happening, it would be smarter to just pay your tax bill or take your case directly to U.S. Tax Court. It’s also important to know that any penalties and interest placed on you during the original audit will continue to accumulate during the audit process. In the event that you lose the appeal you will have to pay even more than you originally owed.

Audits are generally frustrating, dragging processes that usually result in increased tax liability. Appeals, however, are not as complex and usually put money back in the taxpayer’s pocket. If you are undergoing an audit or need assistance in appealing the findings of the IRS, contact the Law Offices of Jef Henninger to assure the best possible outcome.

How do I avoid an audit?

There are many different reasons that you can be audited, but more times than not you will receive that dreadful letter in the mail from the IRS because there was a mistake on your tax return. There’s nothing you can do to prevent yourself from being randomly selected, however there are a number of precautions you can take to reduce the likelihood of being audited.

Make sure your information is correct

The most common reason people are audited is for inconsistent information on their tax return. If you file your return with one income on your return but your W-2 says otherwise, you will most likely be audited.

It is important to double check everything you write on your return. Make sure all of your math is correct, nothing is omitted, and everything is signed. Make sure you sign your return! Many people are guilty of this simple mistake that gives the IRS reason to take a closer look at your return.

Always double check your math. Math errors raise eyebrows, so be certain that your calculations are correct.

It is crucial that the income you claim matches the income reported on documents such as the W-2, 1099, and 1098. Underreporting income is a serious matter that can get you in a lot of trouble. Mistakes happen, just make sure this mistake doesn’t!

To verify that your information is correct, wait until you have all the necessary documents before filing your tax return. Gathering bank statements, income reports, and other financial documents make filing your return a whole lot easier. You’ll have a reference to work from to ensure your information is correct and it will be hard to forget any income with your financial records right in front of you.

Although the IRS has human auditors, most returns are examined by computers that analyze your tax return and search for errors and inconsistencies. It is crucial to double check everything you write on your return. If there is an error, the computer will catch it.

Maintain your records

Keeping financial records for both business and personal expenses can help you prevent an audit. Maintaining accurate books and records assures that your return will be accurate, preventing suspicion from the IRS. In the event that you are audited, keeping meticulous records can also be used as substantiation for any questions the IRS has. Financial records you should track include:

  • At least three years worth of tax returns
  • Checkbook stubs
  • Receipts from all purchases throughout the year
  • Property and taxable investment costs
  • Bills
  • Records of deductible items
  • Receipts and appraisals for any charitable contributions
  • Records of work-related expenses.

Small Businesses

Small business owners and self-employed individuals are some of the most at-risk for audits because they have the most opportunity to under-report income. If you’re a small business owner, it’s crucial that you don’t try to “push the envelope” and see how much income you can get away without reporting. If you really want to avoid the nightmare of an audit, it’s best just to be honest.

Businesses that deal primarily in cash are under more scrutiny from the IRS. Restaurants, bars, salons, taxi services, and other cash/tip based businesses are very likely to be audited because it is much easier to under report income when dealing in only cash. That being said, it is important to be consistent in your accounting method. Switching back and forth between cash and accrual accounting is a red flag to the IRS and will most likely trigger an audit.

One thing that the IRS loves to nail small business owners for is writing off personal expenses as business expenses. While ordering new business cards justifies a business expense, a vacation to Disney World does not. Be smart about what you write off as a business expense, because the IRS will come knocking if you decide that your personal expenses can be deducted. An easy way to keep your business and personal expenses separate is by having a separate account and card for each. It’s recommended to keep a journal of everything you purchase for your business and your reasoning why. Both these methods reduce the likelihood of the IRS auditing your business and will help you in the event of an audit.

Deductions

A simple way to avoid an audit is to make sure your deductions are in check. If you claim an usually high deduction given your income, the IRS will be suspicious. It’s important to know what constitutes a deduction. Gas money for your daily commute to the office does not justify a deduction, whereas a special trip to meet with a client in the next state over would.

Again, do not write off personal expenses as business expenses. If you work from a home office, don’t try to write off the new dishwasher as a business-related deduction.

A general rule of thumb is if you have to spend money on something to help you make money, it can count as a deduction. Don’t get carried away, though. The IRS won’t appreciate it, and you’ll pay for it regardless in the end.

Report your income accurately

Are you currently a small business owner who also does some consulting on the side? If so, be sure to accurately report all of the money you are bringing in across your different income streams.

As tempting as it may seem, never exclude a portion of your income from your tax return. When you do this on accident, it’s called negligence and can have minor but unfavorable penalties in the form of fines plus interest. When you do this on purpose, it’s called tax fraud and there will be harsh consequences such as a $250,000 fine and up to 5 years in prison.

The IRS compares your reported income to information collected from banks and employers to look for any discrepancies. Always make sure that what you report is accurate. Any error, whether by mistake or intention, can have you face fines that should’ve easily been avoided.

Dependents

If you or your spouse can claim dependents, make sure the dependents are only claimed on one tax return. This is a common mistake that can trigger an audit.

File your return electronically

The IRS says that the chances of you making a mistake on your return are dramatically reduced if you file it electronically. The IRS reports that the rate of errors on paper returns is 21%. The error rate for electronically filed returns, however, is only 0.5%. If you’re still filing on paper, it is highly recommended that you make the switch over. Less chances of an error means less chances of an audit.
The most effective thing you can do to avoid an audit is be honest. Lying on your return will never work out for you. As long as you file your tax return accurately, honestly, and on time, you don’t have much to worry about. Should you find yourself under audit regardless, contact the Law Offices of Jef Henninger, Esq., for professional assistance. You don’t have to face the IRS alone, we’re here to assure the best possible outcome for our clients.

IRS Criminal Investigation Process

The most frightening thing the IRS can do to you is open up a criminal investigation. The Internal Revenue Service Criminal Investigation Division (CID) conducts criminal investigations of individuals and firms under suspicion of committing tax fraud or other serious financial crimes. The CID looks for violations of the Internal Revenue Code, the Bank Secrecy Act, or for significant discrepancies in tax returns that constitute tax fraud. Examples such as deliberately under reporting income or intentionally failing to file a tax return can spark an IRS investigation.

Although only a handful of the millions of taxpayers undergo investigation, those who do are usually convicted and face devastating consequences. According to the IRS website, 3,853 criminal investigations were initiated in 2015 with 2,879 convictions and 80.8% of those investigated sent to prison. Alongside incarceration, a criminal investigation can result in huge fines, the loss of licenses, and the closure of businesses.

It’s important to understand that an investigation by the CID is very different and much more dangerous than an audit. Whereas the IRS during an audit seeks to find errors in a return in order to collect funds for the agency, the CID seeks not to collect money but only to prosecute you.

Warning Signs

More often than not, you will not be notified immediately when the investigation begins. If you are being audited, warning signs that the audit has turned into a criminal investigation include:

  • The IRS auditor who has been conducting your audit suddenly stops contacting you and will not return your calls for days or weeks at a time. This is not luck and no, they did not decide to just let you off easy. Your case may have been referred to a Special Agent in the CID. The auditor reviewing your return is no longer is in control of your case and ceases contact with you in order to prevent any obstruction to prosecution.
  • Your bank informs you that the CID using a summons or the local U.S Attorney’s Office using a grand jury subpoena are collecting copies of your bank records. Hiring representation will allow you to follow the IRS investigation and acquire the same records the IRS collects.
  • Your accountant is contacted by the CID or is subpoenaed to appear before a grand jury and hand over your tax records. Unfortunately, you are not given the same confidentiality guarantees with your accountant that you are with your lawyer. Not only does the accountant have to bring forward your records but they may also be called to testify, using any conversations you’ve had with them against you. While there is such a thing as accountant-client privilege, it does not apply in criminal investigations.
  • You are in the middle of an audit and the IRS informs you that a different year’s return has also been selected for examination.

How it’s Initiated

Criminal investigations usually begin when the auditor finds suspicious or significant errors in your tax return and refer your case to the CID. Investigations can also be based off of information given by other law enforcement agencies such as the FBI or the United States Attorney’s office. It is important to note that if the auditor finds indications of fraud, they are required to suspend your audit without telling you. It is illegal for the IRS to conduct a criminal investigation while you think it is an audit, but they will not tell you that your case has been given to the Criminal Investigation Division.

When your case is referred to the CID, it is given to a Special Agent. Like other agencies, IRS Special Agents are highly trained and armed  federal law enforcement officers conducting the investigation. The investigation begins with what is called the “primary investigation” which is a preliminary evaluation of your financial records, tax return, etc. The special agent analyzes your information to determine if fraud or other financial crimes are present. The agent has to acquire approvals before he can contact your bank/employer and needs special authorization before they can ask the grand jury to use its subpoena power to collect certain documentation. Once the special agent concludes his preliminary examination, they hand it to their front line supervisor who will then determine if there is significant evidence to approve investigation. Upon approval, the special agent is given permission to conduct a “subject criminal investigation.”

The special agent may appear at your home unannounced. If you didn’t know you were under criminal investigation by now, this is your wake up call. The agent is required to identify themselves and give a warning. The purpose of this visit is to catch you off guard without representation in order to interrogate you. Without counsel, it is very likely you will incriminate yourself in attempt to explain your mistake. Absolutely do not speak with the Special Agent without representation. You are not required to and it is in your best interest that you wait until you have professional help.

Once the criminal investigation has officially begun, the special agent will begin collecting evidence against you through a variety of means such as conducting surveillance, acquiring search warrants, collecting bank records and other financial documentation, and interviewing third parties such as employers, coworkers, and landlords.

The Investigation Process

To summarize, the IRS criminal investigation proceeds as follows:

  1. The IRS agent auditing your return finds evidence of fraud and refers your case to the Criminal Investigation Division.
  2. The special agent in the CID reviews your case and begins the primary investigation, reviewing your case for potential fraud.
  3. The special agent obtains authorization to collect information, issue a summons for records, ask the grand jury to subpoena documents, and to interview third parties.
  4. Once the special agent has collected sufficient evidence to bring the criminal case to court, they will document their findings in a Special Agent Report (SAR). This report features the agent’s conclusions of the criminal investigation and possible federal charges you can face. The agent then refers this report to the Department of Justice in order to prosecute and indict you. The referral, prosecution, and indictment must first be approved by a higher-up in the IRS.
  5. Once the IRS collectively approves the special agent’s referral, the IRS must seek approval from the local United States Attorney and from the Tax Division of the Department of Justice. You have the right to meet with anyone involved in the approval process to potentially stop the prosecution before it even begins.
  6. Once the IRS, United States Attorney, and the Tax Division of the Department of Justice all approve the referral, they must finally seek authorization from the grand jury to indict you.
  7. When the grand jury decides to indict you, your case has officially been brought to court. You must appear in court for a bail hearing and an arraignment where you will either plea guilty or not guilty. It is absolutely crucial that you have legal counsel by this time.
  8. It is your right to meet with your district federal judge and convince them to have the indictment dismissed before it goes to court. If they do not dismiss it, your case will appear before a jury.
  9. The jury will then determine whether you are guilty and not guilty. You have the right to appeal, but if your appeal does not succeed, jail time and other harsh penalties will follow.

Conviction

The goal of the CID is not to collect money owed to the federal government but to put tax evaders behind bars. Penalties can be severe, generally resulting in fines up to $250,000 for individuals, $500,000 for businesses, and up to 5 years in prison. If you find that you are being criminally investigated by the IRS, contact an attorney immediately. Alone, you won’t stand a chance against the IRS. With professional help from the experienced attorneys at the Law Offices of Jef Henninger, we’ll keep you out of jail and assure you the best possible outcome from a criminal investigation.

What are my rights during an audit?

Similar to a suspect in a criminal investigation, the taxpayer in an audit is guaranteed certain rights. Publication 1, Your Rights as a Taxpayer, is an IRS document containing the Taxpayer Bill of Rights and summaries of the various processes that occur during an audit.

The Taxpayer Bill of Rights is a collection of 10 assurances relating to the treatment of the taxpayer and the limitations of the IRS. Publication 1 specifically states these rights as followed:

  1. The Right to Be Informed

Taxpayers have the right to know what they need to do to comply with the tax laws. They are entitled to clear explanations of the laws and IRS procedures in all tax forms, instructions, publications, notices, and correspondence. They have the right to be informed of IRS decisions about their tax accounts and to receive clear explanations of the outcomes.

  1. The Right to Quality Service

Taxpayers have the right to receive prompt, courteous, and professional assistance in their dealings with the IRS, to be spoken to in a way they can easily understand, to receive clear and easily understandable communications from the IRS, and to speak to a supervisor about inadequate service.

  1. The Right to Pay No More than the Correct Amount of Tax

Taxpayers have the right to pay only the amount of tax legally due, including interest and penalties, and to have the IRS apply all tax payments properly.

  1. The Right to Challenge the IRS’s Position and Be Heard

Taxpayers have the right to raise objections and provide additional documentation in response to formal IRS actions or proposed actions, to expect that the IRS will consider their timely objections and documentation promptly and fairly, and to receive a response if the IRS does not agree with their position.

  1. The Right to Appeal an IRS Decision in an Independent Forum

Taxpayers are entitled to a fair and impartial administrative appeal of most IRS decisions, including many penalties, and have the right to receive a written response regarding the Office of Appeals’ decision. Taxpayers generally have the right to take their cases to court.

  1. The Right to Finality

Taxpayers have the right to know the maximum amount of time they have to challenge the IRS’s position as well as the maximum amount of time the IRS has to audit a particular tax year or collect a tax debt. Taxpayers have the right to know when the IRS has finished an audit.

  1. The Right to Privacy

Taxpayers have the right to expect that any IRS inquiry, examination, or enforcement action will comply with the law and be no more intrusive than necessary, and will respect all due process rights, including search and seizure protections and will provide, where applicable, a collection due process hearing.

  1. The Right to Confidentiality

Taxpayers have the right to expect that any information they provide to the IRS will not be disclosed unless authorized by the taxpayer or by law. Taxpayers have the right to expect appropriate action will be taken against employees, return preparers, and others who wrongfully use or disclose taxpayer return information.

  1. The Right to Retain Representation

Taxpayers have the right to retain an authorized representative of their choice to represent them in their dealings with the IRS. Taxpayers have the right to seek assistance from a Low Income Taxpayer Clinic if they cannot afford representation.

  1. The Right to a Fair and Just Tax System

Taxpayers have the right to expect the tax system to consider facts and circumstances that might affect their underlying liabilities, ability to pay, or ability to provide information timely. Taxpayers have the right to receive assistance from the Taxpayer Advocate Service if they are experiencing financial difficulty or if the IRS has not resolved their tax issues properly and timely through its normal channels.

In summary, the Taxpayer Bill of Rights basically guarantees that the taxpayer will be sufficiently informed about the actions and requests of the IRS and to be treated fairly by the IRS. This document is important in that is assures the taxpayer will be informed on why they are being audited and how the audit is going to affect them. It also assures that the IRS won’t overstep their bounds or take advantage of the taxpayer by granting rights to privacy and representation.

Unfortunately, IRS agents are well aware that most Americans have almost no understanding of the tax code nor do they know their rights during an audit. This leads to not only the IRS gaining more information than they’re entitled to but also the taxpayer unintentionally incriminating themselves, especially during office and field audits. Your rights are best protected with proper representation. Here at the Law Offices of Jef Henninger, Esq., we work to protect you from the IRS overreaching and to wrap up your audit as quickly as possible.

Tax Fraud

What is tax fraud?

Tax fraud is a general term for when a person or firm intentionally defrauds the government in order to avoid paying taxes. Major examples of fraud include failure to file a tax return, intentional failure to pay taxes, intentional under-reporting of income, preparation of false files, filing a false tax return, and using a fake Social Security number. Tax fraud is a serious offense with brutal consequences. Along with jail time, individuals convicted of tax fraud can be fined up to $250,000 and businesses can be fined up to $500,000.

The key component to fraud is that the taxpayer’s actions are intentional. Taxpayers are legally bound to accurately report income and expenses on their tax return. Withholding or falsifying information on a return is illegal and can result in either civil or criminal charges. If the auditor reviewing your return finds evidence or sufficient suspicion of tax fraud, your return may end up in the hands of the IRS Criminal Investigation Unit.

It is important to note that, while the IRS usually has 3 years to conduct an audit, there is no statute of limitations if they find evidence of fraud in your tax return. The IRS can investigate a fraudulent return for however long they require and can open up returns from previous years, so don’t try to wait them out.

If you intentionally commit tax fraud, the IRS will find out. The IRS combines both trained auditors and computer systems to detect discrepancies within your return. The auditors are trained to find fraud within a return, however most of the errors they find are honest mistakes. So what distinguishes fraud and mistake to the IRS?

Fraud or Negligence?

The IRS can tell the difference between honest mistakes and fraudulent actions. If you did not intentionally falsify your tax return, you don’t have anything to worry about. Honest mistakes do happen, though. The IRS knows that the tax code is complicated and most people are unaware of how it works. When errors are found in a return, the IRS generally gives the taxpayer the benefit of the doubt and assumes the mistake was out of negligence. Intent is the key difference between fraud and negligence. Common intentional actions that serve as red flags to the IRS include:

  • Overstatement of deductions and exemptions
  • Falsification of documents
  • Concealing income
  • Keeping two sets of books
  • Falsifying personal expenses as business expenses
  • Using a false Social Security number
  • Claiming an exemption for a nonexistent dependent, such as a child

A 20% penalty can be placed on you for negligent actions such as failing to keep adequate records. This means that if you owe $10,000 in taxes and are given a 20% penalty, the penalty will amount to $2,000 for a total of $12,000 plus interest. This is an honest mistake and is much better for you than the 75% penalty placed on you for civil fraud. Negligence isn’t illegal, but you can still pay for it. Be careful to keep records and to file your return accurately. The IRS is trained to tell the difference between fraud and negligence, but you don’t want to give them any reason to take a closer look at your finances.

The chances of you being charged criminally for fraud are extremely low. The IRS Criminal Investigation Unit only investigates about 2% of taxpayers, only 20% of that actually face charges. When an auditor spots an error in a return, they usually just place civil penalties to avoid extra paperwork. The IRS unofficially only conducts criminal investigations on cases with at least $70,000 in unpaid taxes. Considering most people don’t even make that in a year, the average American shouldn’t worry about being accused of tax fraud.

How the IRS Proves Fraud

The IRS relies on four indirect methods for determining fraud. They examine specific items, bank deposits, expenditures, and net worth to determine if you have committed tax fraud.

Specific items, such as checks given in payment to a company that are pocketed by the company owner, are useful in an investigation but there must be enough specific items to prove fraud. Unless a single check is pocketed for a significant amount of money, anywhere between 15 to 20 specific items are needed to prove fraud.

Bank deposits are the easiest way for the IRS to prove fraud because the auditor only has to find the sum of all of your deposits and compare it to your reported income. If your deposits exceed your reported income, you will be accused of fraud.

As with bank deposits, the IRS will calculate the sum of all your expenditures such as written checks, living expenses, and estimated cash expenses. The auditor can even use statistics on the cost of living in your area. If the sum of all of your expenditures exceeds your reported income, the IRS will be suspicious of tax fraud. The auditor will want you to fill out IRS Form 4822 which lists your living expenses. Do not do this. There is no punishment for refusing to fill it out and it only makes it easier for them to incriminate you.

Net worth is calculated by the IRS by finding the sum of all your liabilities and subtracts it from the sum of all of your assets from the start and end of the year under audit. If there is an increase of net worth without an increase of income from the previous year, the IRS will suspect you of tax fraud.

The IRS has additionally compiled a list of “badges of fraud” which are specific indicators that fraud is present. The badges are various but generally fall under the categories of understated income, insufficient books and records, failure to file tax returns, inconsistent or unlikely financial behavior, concealing assets, and failure to cooperate with the IRS.

No one of these badges are enough to prove fraud on their own. Multiple indicators are necessary for the IRS to conduct a criminal investigation.

A Clear Example of Tax Fraud

It is fairly easy for a self-employed person to fall into fraudulent habits. Since they keep track of their own books and records, it is easy for them to write off personal or fictitious expenses as business related. This would give them tax benefits they are not actually entitled to.

Say you own a restaurant and you decide to write off personal expenses such as vacations, personal travel expenses, or your phone and internet bill as business you can amount large illegal deductions that hide the actual amount of money you owe the IRS. This is an example of intentionally fraudulent behavior that can result in criminal consequences.

It is the IRS’s responsibility to prove that you intentionally committed fraudulent actions. Regardless, it is vital that you cease contact with the IRS and get legal representation such as the Law Offices of Jef Henninger as soon as you discover you are being investigated for fraud.

What kind of penalties can an audit result in?

How likely am I to go through an audit without owing any money to the IRS?

The IRS doesn’t audit someone if they don’t think there’s money to be made. Other than to ensure that taxpayers are abiding to the U.S. tax code, the main purpose of an audit is to provide funds to the IRS through penalties and interest. That being said, your chances of getting away scot-free or even receiving a refund are slim. Less than 25% of taxpayers audited by the IRS end up owing nothing to the IRS. There are a variety of reasons why you can be audited, but whatever reason it may be you will likely have to fork over a large sum of cash to the IRS.

It’s important to file your taxes accurately on and time. The penalties the IRS can place on you plus interest rates pile up quickly and can lead to you owing substantial amounts of money.

There are a variety of penalties you can face depending on the nature and severity of the error on the tax return.

Accuracy Related Penalties

If your tax return is inaccurate, the IRS can impose a penalty of 20% on the total tax understatement. If your taxes are severely understated, this penalty can double to a massive 40%. The following are the types of inaccuracies that can result in penalties.

  • Negligence or Disregard of Regulations: You can face penalty if you do not conform to the Internal Revenue Code, such as not submitting a tax return or not keeping records.
  • Substantially Understating Your Taxes: If you under-reported your income by more than 10% or $5,000, whichever is greater, you will face penalties.
  • Substantially Misstating the Value of Property: Penalties are placed on you if you substantially overvalue property donated or you substantially undervalue property that is depreciating.
  • Substantially Overstating Pension Liabilities: You will face penalty if you overstate pension liabilities by 200% or more.
  • Substantially Understating a Gift or Estate:  You will be fined if you undervalue property claimed on an estate or gift tax return by 65% or less resulting in an understatement of tax of $5,000 or more.
  • Understatements Related to Reportable Transactions: If you understate tax liabilities due to a reportable or listed transaction you can be fined.

Failure to Pay Penalty

If you file your tax return on time but you do not pay all the taxes due, you will have to pay a penalty for late payment. This penalty is 0.5% for each month that increases each month up to a maximum of 25%. This penalty covers all unpaid tax from the date the return was due until the penalty is fully paid.

Failure to File Penalty

If you do not file your tax return on time, the IRS places a penalty of 5% of the tax owed for each month that your return is late, up until a maximum of 25%. If you file your tax return over 60 days late, there is an additional penalty of $205 or 100% of the tax owed, whichever is less. This can be avoided if you can prove that you had reasonable cause for filing late.

Civil Fraud Penalty

If during the audit the IRS determines that any part of the underpayment is fraudulent, the entire underpayment will be treated as fraudulent and a 75% penalty will be imposed. It is the burden of the taxpayer to prove the return is not fraudulent.

Fraudulently Failing To File a Federal Tax Return

If the IRS determines that you intentionally filed your tax return late in order to evade taxes, you will be subject to a penalty of 75%.

Criminal Penalties

If the IRS finds that you intentionally commit tax evasion, tax fraud, fail to pay your taxes in general, and/or not keep records for your business, you can be charged criminally. Depending on the severity of the crime, punishments range from misdemeanors to felonies. You can face fines up to $100,000 and up to 5 years in prison for tax fraud according to the Internal Revenue Code. If you are being investigated by the IRS, it is absolutely crucial that you contact an attorney immediately.  Here at the Law Offices of Jef Henninger, Esq., we combine professional experience with unwavering determination to produce the best possible outcome for our clients.

When does an audit end?

No matter how long they take or how stressful they can be, all audits eventually come to an end.

After the IRS has finished collecting all necessary documents, reviewing your return, discovering any mistakes, and interviewing the taxpayer, the auditor will conclude the audit by either proposing changes to your tax return or by making no changes. The auditor may find that the substantiation you provided has resolved any errors in the tax return, leading to no changes and no penalties. You will receive an IRS Form 4549 in the mail that details the adjustments to the return.

Most people are unaware that if you are not happy with the audit results, you are given the opportunity to appeal. Taxpayers are given the choice to agree or disagree with the IRS’s proposed changes.

If you agree with the changes

When the examination concludes, you will receive a letter describing what parts of your return have been changed and how much additional tax  and interest you owe. Interest is calculated from the date your return was filed. Failure to pay both the tax and interest will result in a bill. The IRS does offer payment plans that vary from person to person.

In some cases you may not be responsible for additional tax but may be entitled to a refund plus interest.

Once you understand the results of the audit, you must sign a copy of the report alongside IRS Form 870 which signifies that you consent to the IRS’s adjustments. After you do this, the audit is finally over.

If you do not agree with the changes

If you find that you disagree with the auditor’s conclusion, you have the right to appeal and the right to meet with the auditor’s supervisor. You alongside your attorney can work to reach an agreement with the supervisor. You may bring in or mail additional documents you think may further substantiate you.

If you do not come to an agreement with the supervisor, you will receive a 30-day letter informing you of you right to appeal the changes. Obviously, you have 30 days to respond to the IRS, either accepting the changes or proceeding with an appeal. If you do not respond to the letter, the IRS adjustments will become final.