How Does the IRS Know Your Income?

The IRS knows your income because it receives information from your employer, financial institutions and other third parties. It then compares that data to what you reported on your tax return to find discrepancies that can eventually lead to an audit and/or a tax bill. If you receive a notice from the IRS that proposes to adjust your income, payments, credits, and/or deductions, in many cases, it’s best to consult a tax attorney about how to respond. However, here are a few basics you should know.

What Information Does the IRS Receive About Your Income?

The IRS gets information from employers, banks, credit card companies, businesses, and other taxpayers that it uses to verify your tax return. For example, if you have a business, the IRS can gather information from your vendors, wholesalers and distributors.

State governments also provide data to the IRS and vice versa. The IRS Office of Governmental Liaison and Disclosure facilitates the exchange of data and fosters partnerships with state and local government agencies to help improve voluntary compliance with tax laws.

How Is a Discrepancy Identified By the IRS?

Data from you and other parties go into the IRS’s Information Returns Processing (IRP) System and are compared. If a discrepancy is found, it goes to a tax examiner for analysis and confirmation before you are notified.

Importantly, the IRS will also use the system to discover that you haven’t filed a tax return when you had income to report.

What Happens If the IRS Finds a Discrepancy Between Your Tax Return and Other Data?

Taxpayers with a discrepancy in their tax returns are sent a Notice CP2000. This isn’t a bill; it’s a proposal to adjust your income, payments, credits, and/or deductions. You must respond to this notice by either agreeing or disagreeing with the IRS’s information.

If you agree with the IRS’s figures, you can sign the document and send in payment at the same time or just return the form and wait for a bill. However, interest starts accumulating the day the tax return was due so delaying can increase the amount you owe. You may also owe penalties, which may increase as well. If you do owe taxes but cannot afford to pay, a tax lawyer can help you apply for an installment agreement, offer in compromise or other relief program.

Alternatively, if you disagree with the IRS’s findings, you must return the form with an explanation as to why you disagree and provide supporting documentation. In most cases, it is recommended that you contact a tax attorney for guidance to ensure you provide the correct information and don’t share anything additional that may result in more questions from the IRS. If the IRS does come back to you looking for more information or tells you that it doesn’t accept your documentation, a tax lawyer can represent you before the IRS and assist you in challenging or settling your tax matter.

Importantly, you should not ignore the notice. If you do, you risk the IRS sending your case to collections. The IRS can put a lien on your property, garnish your wages, levy bank accounts, take away your passport and take other steps to collect. Fighting these actions is complicated and more costly than if you had addressed the problem at the outset.

If you have a tax problem, you need a tax lawyer experienced in dealing with the IRS. Our firm has over 25 years of experience helping taxpayers resolve their IRS and NYS tax matters. Contact us today.