A tax audit is the process by which the IRS or state tax authority investigates the validity of an individual or business tax return. In a traditional or examination audit, the investigation involves meetings in person between officials and the taxpayer. In a Correspondence Audit, the entire process is conducted on via mail. Most federal tax audits are correspondence audits; only about 1 in 4 tax audits are conducted in person.
Who gets selected for an audit?
Candidates for tax audits, whether in person or correspondence audits, are selected in the same way: either the selection is at random or a computer program detects an irregularity in the tax return. Taxpayers can also be selected for an examination audit if the tax authorities receive tips from informers that allege wrongdoing or tax evasion.
Odds of Selection
In general, less than 1% of all tax returns are selected for examination each year. This percentage varies depending on income, with higher likelihood for individuals with higher incomes. Out of all individuals or businesses selected to be audited, 25% undergo a traditional or examination audit, while 75% undergo a correspondence audit.
Tax Audit Process
In an in-person tax audit, an auditor will meet with the taxpayer multiple times at home, in their place of business or at an IRS office. They will review records, such as the minutes of company meetings and tax reports for different years, and may interview both the taxpayer and other individuals.
In a correspondence audit, the taxpayer receives either Letter 566 or a CP 2000 notice in the mail. Letter 566 advises the taxpayer that they have been selected for examination and lists the documents needed to verify the return. The taxpayer can return copies of these documents through the mail. The CP 2000 notice proposes changes to the tax return, based on information received from third parties. The taxpayer can either agree with the amended change or send additional documentation to prove that their initial return was correct.
Here are some good informational video explaining the process of Audit and Correspondence Audit:
Result of the audit
After an in-person examination audit, the auditor explains the findings and report in detail to the taxpayer. In a correspondence audit, the taxpayer receives a report in the mail. In both cases, the taxpayer can either accept the decision or file an appeal.