I am a former IRS Agent of 10 years who has been in private practice of tax law and IRS Tax resolution for 38 years.

My company has represented thousands of taxpayers before the IRS over the last 29 years.

Very few changes have occurred in the Tax Audit and the IRS Collection sides of things in the past 10 years. It has been very clear though, that the IRS Tax Audits are well on the rise, probably due to the economy and an order for the IRS to collect more money to pay for the huge deficit. Before it collects the money it has to find the money. The IRS does this by auditing large numbers of taxpayers, assessing the money and then collecting.

In the last year we have had an IRS tax auditor in our office every month. If we saw an IRS tax auditor once the prior year, that would be high. We have handled more IRS tax examinations  in the last year than in the last ten years. We expect to see this trending to actually spike.

The IRS has a different philosophy in the hiring of IRS Revenue Agents. In the past they would hire right out of school. Their training was all on the job. They were very green and it was obvious they were not schooled into the world of business. Today is a much different story. The IRS Agents of today are more seasoned, and many have worked in either public accounting or in the tax department of a large corporation and can spot major issues quickly, not getting lost in the details. They are much easier for us to work with, but they spot audit issues in a heart beat.

We have not seen any major changes as to what the tax audits and issues are for. It is business as usual.

Here is the new trending that is taking place as to your risk of an IRS Tax Audit:

1.  Individual Income Tax Returns: The overall audit rate of only 1.1% for all individual returns

2. If you report income on a Schedule C

Individual Income Tax Returns: Your IRS tax audit rate is anywhere from 2.9-4.7% vs. the overall audit rate of only 1.1% for all individual returns. Thus a Schedule C will increase your audit risk 3-4 times.

3. The audit rate for partnerships and S Corporations are at .4% ( less than 1 %). The message here is that you should strongly consider conducting your present Schedule C activity in either an S corporation or a partnership. Transitioning to an S-Corp or partnership form of doing business is very easy and is almost always tax free.

4. If your total income is over $1M: you have a 1 in 12 chance of being audited now, vs. a 1 in 15 chance in 2009.  This is huge. The issues that seem to come up in these exams are:

a. Basis in pass through entities to be able to take losses. If you do not have basis, you cannot take the loss, even if the K-1 shows that a loss has been allocated to you. You must have sufficient money in the venture or be liable for a sufficient amount of the venture’s debt in order to take losses.

b. Passive activities vs. non-passive activities. You cannot deduct passive activity losses against another business or investment income. It is important to be able to document your level of activity in those businesses that are throwing off losses to your personal return to show that you are active in them. If not, you may not be able to use the losses.

c. Capital loss deductions for loans to close relatives that may be disguised gifts instead.

d. Documentation for large charitable gifts. Asset size increases your chance of being audited.

e. Officer/Owner perks

Large Corporations Tax Audit Risks

Gross Income        10M-50M           13.4%
Gross Income        200M-500M     16.1%
Gross Income        5B-20B               45.3%
Gross Income        20B and up        98.0%

A few Insider tips:

1. For those of you who are going to experience a tax audit, do not allow the IRS to go to your office, always meet somewhere else.

2. Hire a tax professional, a former IRS Agent.

3. Do not file your current year, put it on extension so the IRS does not audit that year as well.