Sunday, January 31, 2010

What does a tax audit look like?

The image that comes to most people's minds when they picture a tax audit is a taxpayer sitting across a desk from a government auditor.

Once upon a time, that was true, but nowadays the overwhelming majority of what the IRS and New York State authorities call "audits" of individual taxpayers are "correspondence" audits conducted through the mail.

This is true for taxpayers at all income levels. It's just a practical reality--the tax agencies are under pressure to do more and more with less and less, and correspondence audits enable scarce auditor resources to be stretched a lot farther.

There are still a few face-to-face audits. Apparently, Taxgirl Kelly Erb had a face-to-face audit, presumably in an office, and I recently read an email on the TaxProf list from a law school professor who was expecting a tax auditor to come to her home to conduct the audit there. The professor said the worst part was having to clean up her home for the auditor! (I can definitely relate to that!) Perhaps coincidentally, both Kelly and the law school professor used to work for the IRS. Kelly has noted that she herself had previously been on the other side of the table from the taxpayer.

But most audits are not face to face, so perhaps you'd like to take a look at what a correspondence audit looks like. Here is a PDF of the initial letter for our NYS correspondence audit, with sensitive personal data (like Social Security numbers and our total taxable income) deleted.

I must say that I was initially rather taken aback at the strong boldface heading of at outset of the letter: NOTICE AND DEMAND for Payment of Tax Due, given that this was the first thing we'd heard from the state about our 2006 return since we'd filed it almost three years ago.

It seemed that the New York State Tax Department was coming on awfully strong in its very first ever approach to inquiring about our tax return. (It's my impression that the first notice in a correspondence audit from the IRS is not worded quite so strongly, but then I've yet to see one, so I don't know for sure.)

But after reading a lot of Treasury Department and GAO reports on correspondence audits, I realize that a lot of taxpayers just ignore tax audit correspondence, so maybe the New York tax officials have a good case to make that they need to be somewhat alarmist to make sure they grab the taxpayer's attention quickly.

That boldface headline certainly got my attention! I will be taking care of this matter pronto!

Later on in the letter, there is a page with the comforting title of "Taxpayer Bill of Rights," but it's full of scary things that could happen if we don't pay up or at least respond with our version of the facts within 30 days. (Seizing assets, filing liens, garnishing wages--none of it very reassuring, and certainly none of it does any good for one's credit rating, reputation with the bank or one's employer.)

The audit letter also has another page that provides the possibly comforting information that if one spouse wants to blame it all on the other spouse, s/he has the right to try to prove to the satisfaction of the tax authorities that s/he knew nothing about the allegedly incorrect information provided on the tax return and that s/he did not benefit from the allegedly ill-gotten tax gains from the allegedly incorrect information provided by his/her spouse.

None of this was any comfort to me. As the spouse who is supposed to be the expert at dealing with taxes in our house, any error would be almost surely be attributable to me. (My daughters sometimes irreverently refer to me as the "tax goddess.")

So I read everything over very carefully--and then breathed a deep sigh of relief--I think!

When I got around to reading the smaller and somewhat fuzzier computer print on the back of the first page, it yielded the information that suggests we may not have too much difficulty setting things straight--I hope.

If you're not familiar with New York tax law, I need to explain a few bed buffaloes in the code to help clarify this matter.

UPDATE: An earlier version of this post was getting way too long. I have decided to break it up into pieces. A separate post explaining those bed buffaloes in our tax audit will be up soon.

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