The Internal Revenue Service says it’s about to move its main audit spotlight from the everyday working-class individual taxpayer to those engaged in high-income activities. Now on the audit radar: high-income earners, partnerships and large corporations, and promoters pushing schemes that abuse the tax laws.
This turn of focus comes after a comprehensive review of IRS enforcement efforts funded by the Inflation Reduction Act. All changes are meant, the IRS says, to help restore fairness in the American income tax system.
So Why Do This Now?
The audit rates for the wealthy, partnerships and other high earners have dropped sharply over the last 10 years. New technology, such as Artificial Intelligence, can now be used to crack complex financial arrangements in record time — an effort that used to take human enforcement agents months.
The upgrade in technology will help the IRS spot emerging compliance threats and schemes early on, while also improving decision-making for audit selection of taxpayers so that “no change” filers are not unduly burdened.
Called the High Wealth, High Balance Due Taxpayer Field Initiative, the new IRS effort focuses on taxpayers with total positive incomes above $1 million and more than $250,000 in tax debt.
The agency has had some measure of success recently with high-income tax cases, collecting some $38 million from more than 175 high-income earners. The IRS says that effort will be expanded with the new initiative, contacting about 1,600 taxpayers and hopefully collecting hundreds of millions of dollars in taxes owed.
Turning Scrutiny Toward Large Partnerships.
As of 2021, the IRS already had a Large Partnership Compliance (LPC) program, but the IRS intends to expand it, increasing the number of partnerships examined to take in some of the biggest and most complex partnership returns the agency receives. This, the agency says, is where AI can help, speeding up the screening process of complex returns and flagging those returns that need closer examination.
This part of the upgrade plan could become reality very soon, with examinations planned for 75 of the largest partnerships in the country. These companies have an average of $10 billion in assets each, and include hedge funds, real estate investment partnerships, publicly traded partnerships, large law firms, and others.
Other Work slated for 2024 includes:
- Expanded scrutiny of digital assets. A review of the IRS Virtual Currency Compliance Campaign showed as many as 75% of taxpayers with digital assets could be non-compliant on their income tax returns, according to records from digital currency exchanges.
- Examination of high-income taxpayers for FBAR violations. A Report of Foreign Bank and Financial Accounts (FBAR) is required when a U.S. citizen has an interest in a foreign financial account holding more than $10,000 in value. The IRS took a look at filing patterns and found hundreds of possible FBAR non-filers with average account balances of over $1.4 million.
- Investigating shell companies posing as labor brokers. Tax investigators say they’ve found instances where construction contractors are making 1099-MISC or 1099-NEC payments to what appears to be a subcontractor – but it’s a “shell” company with no employees, no equipment, and no business links to the contractor. The money paid, ostensibly for labor services, instead flows back to the contractor’s pocket.
As part of the overall effort, the IRS is also working to help individual filers who are not considered “high-income.” The audit rates for taxpayers making less than $400,000 a year are being held steady. Fairness safeguards are also being added for individual taxpayers claiming the Earned Income Tax Credit, or EITC.
Taxpayers claiming the EITC were historically audited more often than those at the upper end of the income scale. In fact, audit rates for high-income-level filers, corporations and partnerships dropped sharply in recent years while the much-less well-off taxpayers saw higher audit rates.