There was an article today on Yahoo Finance about tax audits and how they are generated. It got me thinking.
How does the IRS work? Do they load all the W-2s from employers and investment firms into a big computer? Do they look at every return and check the claimed income against the W-2s fro that person? Or do they pick returns at random to check against the W-2 database?
In previous years, an employer could submit W-2’s to the IRS either as paper copies or electronic (tape reel). At that time, the IRS automatically matched the W-2 amount reported by the employer with the amount reported on every employee’s tax return – but only for W-2’s that were reported electronically. Meaning that they did NOT data enter the amounts from all the paper W-2’s reported to them. So the W-2 amounts you reported weren’t matched if you worked for a small employer who filed paper W-2’s, instead of a bigger employer who filed them electronically.*
Presumably, the IRS had reasons to think that people falsifying the W-2 amounts on their returns was not a large a large source of tax fraud – at least, not larger than the cost of data entering all those paper W-2’s.
Currently, only very small employers (less than 24 employees, I think) can still file paper W-2’s with the IRS – all others must do electronic filings. So the vast majority of W-2’s are in the IRS database, and the figure you enter on your tax return is checked against them.
Returns are picked for audits, both randomly, and by various confidential IRS warning signs that look suspicious. (For example, I had a friend who donated a large share of his income to his church – much larger donation than the typical person. This triggered an audit of his taxes a couple of times. Then they presumably marked his record some way, because it didn’t happen after that.) Once your return is selected for audit, everything in it is questioned & cross-checked in any way they can.
*It may be a legend, but I had once heard that a large union (UAW?) had demanded in their contract that the employer file W-2’s by paper rather than tape, for just this reason.
There may be certain deductions that send up red flags and can trigger audits- I was told at an IRS-sponsored tax class that the home office deduction does or did, due to the rampant bogus claiming and the many, many loopholes that people will fail to check and get busted.
Once they find a way into your return, don’t they have total access?
Although, they questioned something on my 2004 return this year (not my fault- learn to read your own forms, retards), and there was no mission creep past my trust income… so maybe not.