Over the years, I have spent a fair amount of effort trying to get my readers to spend less time and money in fear of a tax audit. While an audit is never going to be fun and may cost you a lot of time and even money, the truth is that tax audits are pretty uncommon and becoming less and less common all the time.
For example, the IRS only audited 0.5% of tax returns filed in 2017. There is a higher audit rate for high earners, about 3% for those with $1M+ in income, but still not something to spend a lot of time lying awake at night worrying about, much less not taking legitimate deductions and credits that you should take because you fear they will trigger an audit. Most of the audits are “correspondence” audits, not “field” audits too. So it just means mailing some forms in or having your tax preparer do so.
However, the IRS is not the only entity that does tax return audits. States can also do audits, and the more states you file in, the more likely you are to be audited. I had one this year from the State of Utah. It was a “correspondence” audit, where they basically asked for some more information. The Utah Statute of Limitations on audits is 3 years from the later of the due date or the date the return was actually filed. This audit showed up 25 months after the return was filed. Here's what the letter looked like:
That's right. Utah audited me over $50. How this is worth their employee's time, much less my time, is completely beyond me. $50 represents less than 0.1% of the tax I paid Utah for 2017.
When I read the letter, I had some recollection of dealing with this issue when I filed the return a couple of years previously. So I logged into my UESP (now My529) account to look at the form they sent the state tax commission. Here it is:
As you can see in the upper right hand corner, this is the corrected form that the auditor is asking for. Now, whether UESP never sent the form or whether the state tax commission lost it, I have no idea. But I really don't care. The auditor was kind enough to leave his email address, so the next morning between patients I emailed it to him with this message:
I think we spent more time riding this wake than on my tax audit.
I received your audit letter.
Letter ID: ——–, Account ID ——–, Period Dec 2017
I'll try to call you in a couple of hours when you open, but I am attaching the documentation you should need to clear this up. The UESP form was corrected 3 years ago but either they never sent it to you or it was never entered in properly, triggering the audit.
Less than 3 hours later, he emailed back:
I appreciate you sending in this information to verify your UESP credit. I don't believe we will need anything else at this time.
Thank you
And the audit was over.
- Total time spent by me on it: 5 minutes
- Total money spent by me on it: $0
![State Tax Audit [What Happens & What To Do] | White Coat Investor (3)](data:image/gif;base64,R0lGODlhAQABAAAAACH5BAEKAAEALAAAAAABAAEAAAICTAEAOw== "State Tax Audit [What Happens & What To Do] | White Coat Investor (3)")
I think there are a few lessons that can be learned here.
- Most audits are correspondence audits just looking for more information.
- Most audits are triggered automatically by a mismatch between information provided by an outside reporting entity (on a W-2, a 1099, or in my case, a TC-675H) that differs from what you put on your return. Make sure all that stuff matches perfectly, but don't worry as much about the stuff that only you report.
- In many cases, you did nothing wrong. The IRS reports that 29% of the time on returns for those with an income of $1M+ there is no additional tax due as a result of the audit. Although to be fair, on average they collect $62K (correspondence) to $143K (field) from these very high earners. Those numbers are 21%, $24K, and $32K for those with a more typical doctor income of $200K-$1M.
- Audits need not be long, drawn-out affairs requiring endless amounts of time.
- An audit may cost you nothing.
- You may not need professional assistance with an audit.
What do you think? Have you been audited? Was it federal or a state? What was your experience like? How much time did you spend on it? Was it their error or yours? How much did you end up paying? Did you handle it or your tax preparer? What did you learn from the experience? Comment below!
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FAQs
It is no less severe than an IRS audit and can result in financial and legal consequences. During the audit, your state will review your state tax return to verify that your reported income and deductions are correct. Typically, your state will send you a written notice in the mail to inform you of the audit.
What happens if you are audited and found guilty? ›
If you are audited and found guilty of tax evasion or tax avoidance, you may face a fine of up to $100,000 and be guilty of a felony as provided under Section 7201 of the tax code.
What raises a red flag for an audit? ›
Key Takeaways
The IRS uses a combination of automated and human processes to select which tax returns to audit. Not reporting all of your income is an easy-to-avoid red flag that can lead to an audit. Taking excessive business tax deductions and mixing business and personal expenses can lead to an audit.
What happens if you get audited and don't have receipts? ›
If you get audited and don't have receipts or additional proofs? Well, the Internal Revenue Service may disallow your deductions for the expenses. This often leads to gross income deductions from the IRS before calculating your tax bracket.
How to survive a state tax audit? ›
Proving Residency. In order to survive a residency audit for California, a taxpayer needs to prove that not only are they a resident of California, but that they took steps to establish domicile.
What happens if you don't respond to a state tax audit? ›
If you do not notify us, we can issue an assessment at any time.
Can you go to jail after tax audit? ›
Failing an audit can lead to owing money and incurring penalties. Common reasons for penalties include underestimating the tax liability, misstating the value of property, or not reporting foreign assets. The IRS assesses interest on audit penalties. In cases of criminal fraud, you can face jail time.
Should I be worried if I get audited? ›
Audits can be bad and can result in a significant tax bill. But remember – you shouldn't panic. There are different kinds of audits, some minor and some extensive, and they all follow a set of defined rules. If you know what to expect and follow a few best practices, your audit may turn out to be “not so bad.”
How many years do they go back when you get audited? ›
Generally, the IRS can include returns filed within the last three years in an audit. If we identify a substantial error, we may add additional years. We usually don't go back more than the last six years. The IRS tries to audit tax returns as soon as possible after they are filed.
What should you not say in an audit? ›
It's good to be specific, but there's a danger in words such as “everything,” “nothing,” “never,” or “always.” “You always” and “you never” can be fighting words that can distract readers into looking for exceptions to the rule rather than examining the real issue.
The IRS probably already knows about many of your financial accounts, and the IRS can get information on how much is there. But, in reality, the IRS rarely digs deeper into your bank and financial accounts unless you're being audited or the IRS is collecting back taxes from you.
Do you get your tax refund if you get audited? ›
For these audits, the IRS is often freezing refunds. Because the IRS has to pay interest on refunds it pays late, the IRS tries to start and finish these audits quickly. They are usually done by mail. Once you answer the IRS' questions about the accuracy of your return, the IRS will release your refund.
What income bracket gets audited the most? ›
Who Is Audited More Often? Oddly, people who make less than $25,000 have a higher audit rate. This higher rate is because many of these taxpayers claim the earned income tax credit, and the IRS conducts many audits to ensure that the credit isn't being claimed fraudulently.
What is the Cohen rule? ›
Under the Cohan rule taxpayers, when unable to produce records of actual expenditures, may rely on reasonable estimates provided there is some factual basis for it. The rule allows taxpayers to claim certain tax deductions on the basis of such estimates.
Can you refuse a tax audit? ›
You'll have 90 days to file a petition with the U.S. Tax Court. If you still don't do anything, the IRS will end the audit and start collecting the taxes you owe. You'll also waive your appeal rights within the IRS.
Are you more likely to get audited by state or federal? ›
Some factors increase a person's likelihood of facing a state audit but not a federal audit. Taxpayers are more likely to face a state audit if they: Work in a different state than the one they live in. Own a business that operates in multiple states (Nexus)
Am I in trouble if I get audited? ›
If a state or IRS audit reveals that you are not in compliance with tax laws, you may face a civil fraud penalty or even charges for tax evasion or fraud. In this situation, you need a tax attorney.
How often does a state audit trigger a federal audit? ›
Not necessarily. While the IRS and states share information with each other, it doesn't mean one audit will trigger the other. However, a blemish on your state tax return can impact your federal return, and vice versa, which can trigger an audit.
What triggers a state income tax audit? ›
Generally, what triggers a state tax audit is a tax return with an error or discrepancy. Some of the most common ones are mathematical mistakes, incomplete information and mismatches between what the taxpayer reported and data the government has in its database.
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