The fact that the IRS has selected your return for an audit does not mean that you’ve been dishonest or even that an error has been made. In fact, very many times an audit results in no change to your tax return at all.
The IRS has a few methods of selecting returns:
One method is Computer Scoring - In this case, returns are chosen based on its score. The DIF (Discriminant Function System) is a computer program used by the IRS that rates your tax return and determines if there is a good chance that change will be needed.
A second computer score is the UIDIF Unreported Income DIF which rates your return for the potential of unreported income. Often people talk about Red Flags. Do you think that the DIF and the UIDIF may the venue that raises those flags?
Information Matching – Sometimes a return may be selected because some information doesn’t match up. For example, maybe your W2 doesn’t match what was reported by your employer. More often than not, it may be that your 1099 or 1098 doesn’t match what you have reported.
Related Examinations- Sometimes you may be selected if someone “close” to you has an audit scheduled. For example, if your partner in your partnership is being audited because his income doesn’t seem to be in line with the partnership’s income, then perhaps the same problem may exist with your return. Great! Now you have the pleasure of meeting with an IRS agent.
Potential participants in abusive tax avoidance. Sometimes, the IRS will identify a tax avoidance scheme or person who promotes such. In such a case related returns may be selected for an audit. (Make sure you have a good and honest preparer, it could destroy you otherwise).
There are other reasons that your return may be selected. More often than not these are local in nature. For instance, to make sure that a particular preparer is complying with good practice, your return may be selected. (Make sure you have a good and honest preparer, it could destroy you otherwise).
Does this help? I hope so; it’s good to have an idea as to why your return is selected for an audit. If you prepare (or have your return prepared) as honestly as possible, then there is no need to really worry about audits. But if you do get a letter or inquiry how do you proceed?
Next up: How are audits conducted; If Your Return Is Examined