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IRS should focus tax audit efforts on richer taxpayers

Uncle Sam and we taxpayers all have a lot to be thankful for this Thanksgiving.

From the government's point of view, Treasury took in almost $3.25 trillion in taxes for the 2015 fiscal year that ended back on Sept. 30.

And from taxpayers' perspective, that record amount or tax dollars was achieved without most of us having to endure a tax audit.

Tax audit_1040 and audit stamp

Based on tax data from fiscal 2014, the Treasury Inspector General for Tax Administration (TIGTA) found that the Internal Revenue Service's examination function -- that's tax-speak for auditing of returns -- dropped by 11 percent from the fiscal 2013 number of exams.

Fewer audits for all: The decline in audits, TIGTA said in its Nov. 10 report (take a deep breath, it's a long title) Trends in Compliance Activities Through Fiscal Year 2014, was across almost all tax return types, including individual, corporation and S corporation.

And the low level of audits is continuing.

Overall, acknowledged IRS Commissioner John Koskinen in testimony before the Senate Finance Committee on Oct. 27, the agency audits just more than 1 million returns a year. That's not bad, given that the IRS budget keeps getting cut, including the portion for tax return examinations.

But that's only a fraction of the overall returns it handles. For the most recent filing season, the IRS received more than 150 million individual Form 1040s. Percentage-wise, 1 million audits is just 0.667 percent of all the individual filings.

Remember, too, that those 1 million or so audits also covered business examinations.

So with the number of audits being flat over the last few years, what should the IRS do? Focus on examining the returns that can provide the biggest bang for the tax buck.

Focus on the high-dollar filers: In TIGTA's report (take a deeper breath, it's a longer title) Improvements Are Needed in Resource Allocation and Management Controls for Audits of High-Income Taxpayers released Nov. 19, the tax agency watchdog says the IRS should focus on audits of the wealthy.

And by wealthy, TIGTA means really big dollars.

Currently, the IRS identifies high-income taxpayers as those who report income of at least $200,000 on their individual Form 1040. TIGTA found that the IRS spends too much time and effort auditing people who make $200,000 to $400,000 and too little going after the very wealthiest Americans.

More to the point, TIGTA says "it is not clear that the IRS audits the most productive high-income taxpayer cases. ... It appears that the IRS is spending most of its audit resources on auditing tax returns with potentially lower productivity."

IRS audit productivity by 2014 income levels_TIGTA

To correct that, TIGTA recommends that the IRS reevaluate the appropriate income thresholds it uses in its existing High-Income and High-Wealth audit strategy and "use the results of the evaluation to ensure that audit resources are being applied to the appropriate taxpayer income levels."

Bottom line: Go after those filers where the examiners' work will bring in more dollars.

Audits for all = voluntary compliance: In response to the TIGTA audit report, IRS' Large Business and International Division Commissioner Douglas O'Donnell agreed that a reevaluation and periodic indexing of the agency's high-income/high-wealth threshold "would be advisable, especially in light of our declining budget resources."

But, added O'Donnell, IRS resource audit allocation decisions "cannot be made solely on the basis of productivity measures."

Essentially, while the IRS does want to get as much owed income as possible via audits, there's a concern that if it focuses only or more on rich taxpayers, the rest of us might think we could get away with a bit more tax return fudging.

So look for the IRS to keep auditing everyone, as much as its budget will allow.

But the good news for all taxpayers is that even in the best of budget times, most of us aren't going to be audit targets.

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