IRS Announces New Audit Lottery

The Internal Revenue Service recently revealed that a new National Research Program (NRP) tax reporting compliance study focusing on individual taxpayers will soon begin. The stated purpose of the program is to improve the audit selection process and to ensure the proper and fair payment of taxes by all taxpayers.

This new NRP study will be the first of a continuing series of studies. During October 2007, the IRS plans to audit a sample of some 13,000 randomly selected 2006 individual returns. The IRS will systematically analyze audit results over multiple rolling three-year periods and periodically modify its audit methodologies. (Previous studies drew returns from one year and resulted in audits of over 45,000 returns.)

“The new program will be a big step forward for tax research,” said acting IRS Commissioner Kevin M. Brown. “Our approach will reduce burden on taxpayers, improve our audit selection techniques and give us more timely information to help reduce the tax gap.”

The tax gap is the difference between what taxpayers should have paid, according to the IRS, and what they actually paid. Based on earlier NRP studies, the IRS estimates that the tax gap for 2001 was $290 billion!

Using research from earlier studies, the IRS has fine-tuned its audit selection system. According to IRS officials, up-to-date statistics enable them to audit more efficiently and improve the detection of underreported income and overstated deductions and credits. The research also permits the IRS to do fewer audits because they are able to target non-compliant taxpayers and avoid conducting unnecessary audits of compliant individuals.

The IRS has declared that audit statistics need to be up to date because patterns of taxpayer noncompliance change over the course of time. The audit sample for the most recent NRP study contains sub-samples of individuals at different income levels as well as those engaged in farm and sole proprietor business activities. There is also an unconfirmed rumor that the IRS may target capital gains in the next group of random audits. Evidently, they are concerned that taxpayers may be overstating their “tax cost/basis” (such as the purchase price of land or investments) in order to minimize capital gains tax.
 
The initial group of “lucky” taxpayers whose returns are chosen for audit under the new NRP study will start receiving official letters in October advising that they are part of the research study. The majority of individuals will have specific lines of their returns confirmed through in-person audits with an IRS examiner. Some, however, won’t be contacted assuming the IRS can obtain matching and third-party data that confirms the accuracy of their return. The targeted design of the new NRP study avoids the need for IRS agents to routinely check all the lines of a taxpayer’s return.

In addition to the NRP for individuals, the IRS is in the final stages of a compliance research project examining reporting compliance of S corporations. This research encompasses approximately 5,000 returns filed for tax years 2003 and 2004.

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