The IRS Audit and Appeals Process

After taxpayers file their tax returns, the IRS computer system analyzes the returns to verify that income, deduction, gain, and loss amounts reported to the IRS by third parties are properly reported on the taxpayers' returns. The system also gives each return a numeric score based on certain factors that the IRS has identified as indicative of error. Returns that have a high probability of error are screened by IRS personnel and in this manner, selected for audit. The first step in an audit is a letter from the IRS to the taxpayer providing notification that the return has been selected.

Examinations can be conducted through the mail or face-to-face. A taxpayer can represent themselves, but it is wise to have a good CPA or tax attorney assist. Hiring a reputable professional to assist with tax return filing and significant transactions in the first place can often prevent the kinds of problems that trigger IRS scrutiny of a tax return in the first place.

At the end of the audit, the IRS will provide the taxpayer a written explanation of any proposed changes to the tax return. If the audit results in a lower assessed tax (which is possible), the taxpayer will get a refund. If not, and the IRS takes the position that additional tax is owed, the taxpayer has a choice: Pay the additional tax, or contest the proposed changes.

If the audit meeting takes place at an IRS office, the taxpayer can immediately request a meeting with the examiner's supervisor. If the meeting takes place elsewhere or no agreement with the supervisor can be reached, the examiner will forward the case for processing. The IRS will prepare an examination report detailing the proposed adjustments as well as a "30 day letter."

The 30 day letter will inform the taxpayer of their right to an appeal from within the IRS to an independently-operated IRS Appeals office. A written request must be filed with the IRS office indicated in the letter in order to have the matter brought before the IRS appeals officer. Many matters can be settled with an IRS appeals officer, although the taxpayer can take the matter to court without IRS appeals.

If the taxpayer does not respond to the 30-day letter or an agreement cannot be reached, the IRS will send a Notice of Deficiency, or 90 day letter. The Notice of Deficiency gives the taxpayer 90 days to file a petition with the U.S. Tax Court. If no petition is filed, the IRS assesses the proposed tax and bills the taxpayer for the deficiency. Alternatively, the taxpayer can pay the disputed tax in full and file a claim for refund with the IRS. If the refund is denied, the taxpayer can file suit for refund in a Federal District Court or the Court of Federal Claims.

Throughout this process, there are a number of resources and options available, such as Taxpayer Advocate Service, Offers in Compromise, installment agreements, Alternative Dispute Resolution, etc. After the taxpayer's protest options have been exhausted, and if they are unable to pay, the collections process will commence. That will be the topic of a future post.