So, you go to the mailbox and one of the letters has a return address that sends chills down your spine: IRS.  While your first instinct is to drop the letter on the ground and hightail it back into the house and hide under the bed, that’s probably not the best choice.  While most people don’t like being contacted by the IRS, many of their letters are no cause for panic because they are not audit related.  This post will help you determine what type of notice you received and the steps you should  take to begin clearing matters up.

The first step in the process is to determine what type of notice you have received.  This IRS has over 76 different form letters that you can receive for various reasons.  Listed below are the four main categories that they fall into.

Automated Adjustment Notice.  These notices tend to start with a CP### and tend to contain the language “Summary of Proposed Changes.”  The good news is that this is a computer generated notice and its far more straightforward and easier to deal with than an audit.  About 3% of tax returns filed will produce an automated adjustment notice.  The notice you receive will be due to one of the following four reasons:

  • Error correction – the IRS believes it has found a math error or similar problem in the return
  • Penalty assessment – the IRS believes you did not meet a filing or tax payment deadline
  • Interest assessment – the IRS believes you did not pay a tax bill on time
  • Under reporting – your tax return doesn’t list all the income others have reported to the IRS via 1099 or W-2 forms.

Next Steps

  • Read the notice and determine what the IRS is asking you about
  • Call the IRS (800-829-1040 if the numbers isn’t on the notice) and ask the representative for an explanation of the automated adjustment
  • If you are prepared, state why you believe the notice is wrong or correct
  • If you don’t clear up the matter on the phone, ask the person to note on its record that you disagree with the notice (take down the date and time you called)
  • Draft and send in your response.  If you agree with the IRS/amount then sign the form and return it to the IRS along with payment.  If you disagree, draft a brief letter stating why and send it (along with a copy of the notice) back to the IRS

Correspondence Audit.  These notices tend to contain a check list of items, some of which may or may not be checked.  While the bad news is that this is in fact an audit, the good news is that of the three audit types, this one is typically the easiest to deal with.  Correspondence audits make up 75% of all IRS audits and do not require you to meet face-to-face with an IRS auditor.

Correspondence audits are used to verify straightforward matters.  For example, the IRS may request that you send in purchase and sale documentation to verify gains or losses on stock sales, or closing statements for real estate sales.  Typically resolution can be had by simply sending in the requested documents, but sometimes the IRS is proposing changes that you may disagree with.

Next Steps

  • Read the notice and determine what the IRS is asking you to do/provide
  • Make photocopies of the documents you gather and neatly organize them so they can easily be examined by the IRS (don’t send your originals)
  • Write a clear and concise cover letter to send with your items (send it to the IRS agent that send you the letter) that list all the documents you are providing
  • Send your items certified mail, return receipt requested, so you have a record of actually responding

Office Audit.  This letter will typically have the numbers 2202 located on it somewhere and may reference an appointment date/time.  Just as it sounds, an Office Audit takes place at an IRS office where you will meet face to face with an auditor.  According to IRS statistics, the average additional tax and penalties owed resulting from an office audit is about $6,000.  The notice you receive should list the specific issues on your tax return that the IRS wants to examine.

Next Steps

  • Call the IRS to schedule the audit or confirm the day and time that the IRS has proposed
  • Highlight or circle all the listed issues on the notice as you find them so you can ensure you gather all of the needed information
  • Review your records and find the documentation needed to justify each issue
  • Organize all relevant documentation into neat categories based on the items in question (only include documentation directly related to the item in question)
  • Make necessary copies to provide to the auditor during your meeting
  • Remain credible during your meeting.  If you lie to the auditor once, they may not believe anything else that you say
  • If further documentation is needed to prove your case and you have it, schedule a date/time to send it to the auditor

Field Audit.   This letter will typically have the numbers 3253 located on it somewhere and may reference an appointment date/time.  Field audits are the most serious of the three and the amount owed often runs into several thousands of dollars.  The subjects of these audits tend to be small business owners, self-employed taxpayers, owners of multiple rental real estate properties, earners of more than $100,000 and individuals with complex tax returns.

The steps to resolve a field audit are essentially the same as an Office Audit.  However, due to their nature and the rigor involved, it’s probably advisable that you secure someone to represent you.  This can be an Enrolled Agent (EA), Attorney or Certified Public Accountant (CPA).  Your agent will then help you gather the necessary information and can even speak to the IRS on your behalf if you prefer not to.  However, the real benefit of representation is that the person can address complex tax matters that you may not know the specifics of (especially if someone else prepared your return).