Uh oh! Audits are up

When you work on your tax return this long holiday weekend, and I know that’s what most of y’all will be doing, take extra care.

The IRS just announced preliminary audit statistics
for fiscal 2007 (Oct. 1, 2006, through Sept. 30, 2007) and the
news is not encouraging for those of us who already fear we’ll make a
mistake that’ll catch the IRS’ eye.

Enforcement efforts increased again last year.

That’s not really what we want to hear as we struggle to get our 1040s done.

But there’s one relative bright spot for most of us. Tax examiners have been focusing on the wealthy. The IRS audited one out of every 11 taxpayers with incomes of $1 million or more, an increase of 84 percent over fiscal 2006 examination activity.

At the other end of the income scale, most taxpayers who made $100,000 or less escaped extra IRS scrutiny. Only 1 in every 100 taxpayers in this income bracket warranted an audit.

All audits increased: Although millionaires were prime audit targets, the IRS said its audit rates were generally up in all income levels. The rates were:

• 9.25 percent for those with incomes of more than $1 million, up from 6.3 percent in 2006,
• 2.87 percent for those with incomes above $200,000, up from 2.57 percent, and
• 0.93 percent for those earning under $100,000, compared to 0.89 percent the previous year.

Overall, the IRS looked at just under 1.4 million returns in fiscal 2007, up from almost 1.3 million audits the prior year. The FY07 audit number is the highest since 1998.

Of course, the numbers the IRS is really interested in is how much money the increased audits brings in. The extra examination efforts in FY07 accounted for $59.2 billion. That’s up from the $48.7 billion collected in 2006 and substantially more than the nearly $34.1 billion that audit activity brought in back in 2002.

So expect the IRS to keep the audit pressure on.

In case you need some holiday reading, more detailed audit information is available in the FY 2007 IRS Enforcement and Services Tables and the FY 2007 Enforcement Revenue and Individual Audits Chart.

What’s the DIF? In announcing the latest audit numbers, the IRS noted that its enforcement budget last fiscal year was similar to its FY06 budget. Since it didn’t have extra money to put toward increased audits across the board, it focused on areas of growth and potential risk.

And although the IRS doesn’t talk about it, it’s no secret that tax examiners use some standard figures for comparison to see if a 1040 is way out of whack. Returns are rated for audit using a mathematical formula called the discriminant function system (DIF). Various weights are assigned to separate items on each tax return, ranking returns for the greatest potential error.

Say you live in a typical middle-America, middle-class neighborhood but are claiming tens of thousands more in mortgage interest payments than your neighbors. Either you are mortgaged and double-mortgaged to the hilt or you’re trying to slip something past the tax man.

The tax publisher CCH examined 2005 return stats and came up with these itemized deduction averages:

CCH analysts noted that for 2005, itemized deductions were claimed on 35.4 percent of all tax returns filed and represented 64.9 percent of the total deductions amount. The average for total itemized deductions was $22,693, up almost 8 percent from the 2004 average of $21,038.

The company emphasizes that these are for illustrative purposes only, so don’t necessarily think you’re fine if your Schedule A claims are in the same ballpark.

But the numbers can be useful as a general guide as to whether your deductions might seem out of line.