What Percentage of Tax Returns Are Audited Each Year?

In 2020, the percentage of tax returns audited was only 0.2%, a new low. In the decade prior to that, the odds of an audit steadily dropped going from .93% in 2010 to .39% in 2019. However, those numbers are an average across all tax returns. Your chances of being audited can vary significantly depending on your circumstances. If you fall into one of the categories listed below, you have a much higher likelihood of being audited by the IRS.

1. Missing taxable income.

   The IRS and state tax departments utilize a range of technologies to identify under-reported income, including sharing data across federal and state jurisdictions. They also can compare data from various sources to find discrepancies between what a taxpayer has reported and a third-party such as an employer, bank or credit card company provided. In other words, it pays to make sure your numbers are accurate and supported by financial documents or you may face an audit.

2. Being wealthy.

   Your odds of an audit increase as your income goes up. This is especially true going forward as the IRS has been criticized for focusing on lower-income taxpayers because those returns are easier to audit. The IRS has stated that it will be looking at wealthy taxpayers more closely.

3. Having a business.

   Schedule C for sole proprietors is a common audited area because many people try to fudge numbers, including under-reporting income and over-reporting deductions. Cash-intensive businesses, especially in certain industries that have historically under reported income also are more likely to be audited. These include restaurants, gas stations, dry cleaners and others. Regardless of the type or size of the business, the IRS will compare the business’s revenue and deductions to similar businesses. If your income or deductions are outside the norm, it may increase your chances of an audit.

4. Reporting large losses.

   Claiming large losses on an individual or business return is a red flag especially if the losses offset all or most of the taxpayer’s income. If a business reports large losses in consecutive years, the IRS will question how the business can continue to be a going concern and/or whether it is a hobby, rather than an actual business.

5. Taking certain tax credits.

   Some credits may be red flags because of a history of abuse or mistakes by taxpayers. These include the Research and Development Credit for businesses, Health Premium Tax Credit, American Opportunity Tax Credit and others. Make sure you understand when you can utilize a credit and how to calculate the amount correctly.

6. Engaging in virtual currency transactions.

   As bitcoin and other virtual currencies have become more mainstream, the IRS has indicated that it has set up teams of agents to focus on cryptocurrency-related audits. The IRS has also gone to federal court seeking the names of customers of Coinbase, a cryptocurrency exchange, in order to identify individuals with accounts. Cryptocurrencies are treated as property for tax purposes, so make sure to keep proper documentation.

Taxpayers with one of these red flags have a higher-than-average percentage of tax returns audited each year. However, this is not a comprehensive list. There are dozens of situations that may cause your tax return to be selected for review.

The best course of action is to pay your taxes accurately and on time and to seek the advice of a tax professional if you are unclear as to your reporting or payment obligations. If you cannot file a return or pay the amount due now or have failed to do so in the past, contact a tax attorney. The sooner you address your tax problems, the more options available to you to resolve your tax debt and avoid adverse collection actions. You may be able to challenge the tax assessment or collection action, reduce the amount you owe or get more time to pay.