Audit Penalties
What Happens If You’re Audited and Found Guilty?
What Happens If You’re Audited and Found Guilty?
Audits can lead to hefty IRS audit penalties, and, in some cases, even legal trouble. You want to do everything you can to avoid audits and audit penalties, which bring additional compounding interest charges.
An IRS audit can be scary, even if you know that there are no errors on your tax return. But what if the opposite is true? What if the IRS discovers mistakes in your tax return? What if the IRS decides that you owe additional taxes from your income tax return? If you’re worried about fraud, you may be wondering what happens if you are audited and found guilty.
To help you out, this guide explains the different types of IRS audit penalties you might face and walks through what happens when you get audited by the IRS and errors are discovered on your return. It briefly looks at how to appeal if you disagree with the results of the audit and how to deal with unpaid tax from an audit.
Key Takeaways
- Audit penalties include accuracy-related penalties and fraud penalties.
- Audits may end with no changes to the return or changes with tax due.
- Failing an audit can lead to owing money and incurring penalties.
- Common reasons for penalties include underestimating the tax liability, misstating the value of property, or not reporting foreign assets.
- The IRS assesses interest on audit penalties.
- In cases of criminal fraud, you can face jail time.
Different Types of Tax Audit Penalties
Now you understand some of the reasons you may incur a tax audit penalty. But you’re probably still wondering about the different types of IRS penalties that can occur after an audit. Here is an overview of the penalties you can incur if the audit reveals that you violated the tax code or broke IRS rules.
Accuracy-Related Penalty for Underreporting Your Income
If you underreport your taxable income, the IRS can assess an underpayment penalty for a lack of accuracy. These civil penalties apply when you are negligent about the rules, or if you make a substantial understatement of your tax liability. In both cases, the penalty is 20% of the understated tax due to negligence or substantial understatement.
For example, if you understated your tax by $3,000 for one of these reasons, you could face an additional penalty of $600 on top of the additional tax bill.
Negligence includes things like not including income from a 1099 form or not keeping financial records to prove that you qualify for a credit or deduction. A substantial understatement is when your tax return shows a liability that is 10% or $5,000 lower than it should be. The IRS uses the greater of these numbers. If you claim the Qualified Business Income (QBI) Deduction, the penalty applies if you underpay by 5% or $5,000.
Note that if you can prove reasonable cause for the understatement of income, you may qualify for penalty relief on the accuracy-related penalty. Because this penalty is so high, applying for relief is almost always worth it.
Erroneous Claim for Refund or Credit
You can also receive an IRS audit penalty if you make an erroneous claim for a refund or a credit. This penalty is worth 20% of the tax refund or credit. For instance, if you claim a credit for $10,000 and the IRS disallows it in the audit, the penalty is going to be $2,000. You won’t incur this penalty if the IRS has already applied an accuracy-related penalty to the same tax issue.
Miscalculating Employee Taxes
Keep in mind that IRS audits don’t just apply to income tax returns. The IRS can audit any return you submit to the agency, including employer tax returns. If you miscalculate employee taxes such as federal withholding, Social Security, or Medicare, you can also face penalties. Tax penalties for employee taxes vary, but the most significant penalty is the Trust Fund Recovery Penalty (TFRP). This applies when you don’t pay taxes you’ve withheld from your employees’ paychecks, and it is 100% of the tax bill that should have been paid.
You can also incur tax penalties for a wide range of other offenses including submitting tax forms after the due date, paying taxes late, and failing to pay estimated taxes (business or self-employment taxes). There are different penalties for filing and paying taxes late depending on the type of tax return involved. However, these tax penalties aren’t the same as the IRS audit penalties. You don’t have to be audited to incur these penalties.
IRS Audit Penalty for Tax Fraud
Tax evasion and fraud penalties are some of the worst IRS audit penalties that you can face. The civil fraud penalty is 75% of the understated tax. For instance, if your tax return showed that you owed $10,000 less than you do, you will owe the $10,000 in tax plus a 75% penalty of $7,500. This is sometimes called the imposition of fraud penalty.
Employee Retention Credit Audit Penalties
Audit penalties vary based on the type of return being audited and the severity of the mistakes. For example, if you fail a payroll tax audit involving the employee retention credit, you may incur ERC audit penalties. They are often similar to the accuracy and fraud penalties explained above.
Civil Penalties Vs. Civil Fraud Penalties
Civil penalties are any penalties related to ordinary citizens and their concerns. For example, a late payment penalty is a civil penalty. Civil fraud penalties are specifically related to cases of fraud. Generally, the IRS addresses fraud with civil penalties, but if the agency decides that you have committed a crime, you may face criminal fraud penalties.
How Do Most Tax Audits Resolve?
So, what does “audit” mean in taxes? An audit is when the IRS needs to review your situation further after you’ve submitted your tax return, whether through random selection, suspected underreporting, or an error on a tax return. Sometimes the IRS will receive conflicting information from you and someone who paid you.
An IRS audit can have several different outcomes. During an IRS audit, the auditor asks you to prove the claims you’ve made on your tax return. You provide the auditor with documents to support what you’ve reported on your tax return. They review the documents and decide whether to accept your return as filed or make changes to it. At that point, one of the following occurs.
No Change Audit
A no change audit is when the auditor accepted your tax return as filed. They don’t make any changes. You don’t owe any additional tax or penalties. This is the best result you can get from an audit. If you reported everything accurately, this is what should happen.
Changes and Additional Taxes
Audit changes to your tax return generally lead to additional tax liabilities, but in some cases, the changes can lead to a tax refund where the IRS owes you money. If you agree with the changes, you simply need to make arrangements to pay your tax bill (or accept your refund check). However, if the auditor believes that tax fraud or other issues may be involved, you may also face tax audit penalties.
Tax Appeals and Litigation
If you disagree with changes from an audit, you have the right to appeal. To appeal IRS audits, you can start by contacting the auditor or asking to speak with their manager. Then, you can request mediation or appeal with the Tax Court, but you must do so by the deadline. Typically, you have 90 days from the point you receive the audit results to appeal. This is a complicated process, and for best results, you should reach out to a tax professional for help. Check out our audit reconsideration guide to learn more.
What Happens If You Are Audited and Fail?
A failed audit happens when the auditor doesn’t agree with the information reported on your tax return. This can lead to additional tax liabilities, and in some cases, it can lead to IRS audit penalties. The following sections outline some of the possible results if you fail an IRS audit.
What Happens If You Get Audited and Owe Money?
A lot of people contact us and say, “I was audited by the IRS and owe money, what should I do?” Luckily, you have a lot of options.
If you fail an audit, you will owe additional tax, but also be aware that you may be hit with audit penalties if the IRS finds that you underpaid or underreported your income on your tax return. IRS audit penalties could be related to a failure to file or pay your taxes on time. However, you could also be found guilty of tax evasion in some cases, which can lead to much higher penalties and even jail time.
If you owe money in taxes and or penalties after an IRS audit, you can pay the tax in full, but what if you can’t afford to pay the tax liability after an audit? In that case, you can request an IRS installment agreement to make monthly payments on the tax. Or you may want to explore other tax debt resolution options such as an offer in compromise or a partial payment installment agreement.
What if you disagree with the audit’s findings? Do you have any options for recourse? If you don’t agree with the amount owed after an audit, the IRS states you need to request a conference about the findings with an IRS manager. You could also explore mediation and appeal options in this case.
What If the Auditor Finds That I Just Made a Tax Error?
In most cases, auditors chalk up changes to tax errors. In the case of an error, you have to pay the additional taxes, and as long as you pay them by the due date, you shouldn’t have to worry about any civil penalties.
However, if the error is significant or if the auditor suspects negligence or tax fraud, you will face penalties.
In a lot of cases, the IRS may spot small errors without doing an audit. Then, instead of subjecting you to a full audit, the agency will just adjust your tax return and send you a notice. For instance, the IRS sends notice CP11 if it adjusts miscalculations on your tax return.
What Happens If You Are Found to Not Be in Compliance During an IRS or State Audit?
If a state or IRS audit reveals that you are not in compliance with tax laws, you may face a civil fraud penalty or even charges for tax evasion or fraud. In this situation, you need a tax attorney. You should never deal with fraud or evasion charges without very experienced representation.
How long does the IRS have to audit my return?
The IRS has three years from the filing date to audit your return, but if the IRS has reason to believe that fraud was involved, the agency can go back six years. This is the audit statute of limitations.
For instance, if the IRS decides to audit a return from two years ago and you fail due to fraud, the agency may then go back and audit the last six years of your returns. Additional audits are another risk of failing an audit.
Common Reasons for IRS Tax Audit Penalties and Fees
An auditor may assess IRS tax audit penalties for a range of different reasons. Worried that you may face a penalty? Wondering when auditors assess penalties for not filing taxes accurately? Here are the main reasons for IRS audit penalties.
Underestimating the Amount of Tax Due
In many cases, the audit report will note that you owe additional tax. This can happen if you underreport your income, report excess deductions, or claim credits you aren’t entitled to. If the IRS believes that you just made an error, you’ll only have to deal with the unpaid taxes plus interest. However, if it appears that you have tried to evade taxes, you may have to pay civil fraud penalties for underreported tax. There are different penalties depending on the situation.
Deductions That You’re Unable to Justify
A lot of IRS audit penalties are applied when people take deductions that they’re unable to justify. This may include business deductions, above-the-line personal deductions, or itemized deductions. When you overstate deductions, you understate the tax that you owe. So, tax penalties for this also overlap with the penalties discussed in the above section.
Misstating the value of property
Sole proprietors and other business owners can depreciate the value of capital assets in their business, but if you overstate the value of those assets on your return, you will fail the audit. This can occur if you misstate the purchase price of an asset that you bought, but it can also occur if you overestimate the fair market value of a personal asset that you converted to business use.
Additionally, if you over-value assets that you have given away for charity, you may also fail the audit. Asset value misstatements can also come into play on gift and estate tax returns which require you to include the fair market value of many different assets.
Failure to report foreign assets and bank accounts
If you didn’t report specified foreign assets or foreign bank accounts worth over a certain threshold, you will also fail the audit. Failure to report these assets and accounts carries stiff penalties even if you don’t owe any tax related to the account or asset. The FBAR penalties are even worse if the IRS decides that you willfully didn’t file.
Not Responding to an Audit Notice
What happens if you don’t respond to IRS audit requests? There isn’t a tax audit penalty for not responding to audit notices. But failure to respond can lead to a bigger tax bill. If you don’t respond to the audit notice, the IRS will just adjust your return as desired. Then, the IRS will send you a description of the changes, and it will outline the additional federal tax that you owe plus any IRS penalties that have been added to your account.
The IRS usually sends audit notices to your last address. If you’ve moved, you risk missing the notices. This can lead to unexpected tax bills, and it’s usually a big headache to deal with them. If this happened to you, you should contact us for help.
Interest on IRS Audit Penalties
Penalties and interest both apply when you have unpaid taxes. For instance, if you file your return late, you’ll have to pay penalties and interest on the unpaid tax. If you incur audit penalties, interest will accrue on the penalty. The IRS adjusts its interest rate quarterly, and it varies based on the prime rate. A tax professional can let you know how the penalties and interest affect your total balance due after an audit.
What Happens If You Are Found Guilty of Tax Evasion?
If you’re audited by the IRS and the audit findings indicate that you were trying to commit tax evasion, you can face criminal charges. Tax evasion does not apply to people who make mistakes on their tax returns. It also doesn’t apply to people who are using legal tax avoidance schemes.
It applies when you’re breaking the tax law to avoid having to pay taxes. This may include things like filing a fake tax return, hiding income, destroying records, keeping two sets of books for your business (the real books and the ones you use when filing your tax return), or transferring assets to avoid tax.
There is no minimum penalty for evasion. You can face a penalty of up to $100,000 or up to $500,000 for a corporation. You can also face up to five years in prison. If the IRS auditors advise a criminal investigation on your tax return, you should contact a tax attorney. They can help you create a defense and minimize your risk of criminal penalties as much as possible.
Can the IRS arrest you?
An IRS agent can arrest you, but this usually doesn’t happen. Agents can make an arrest if they have a warrant. Without a warrant, they can act as a private citizen and make an arrest. This usually only happens if the agent feels like they are in danger.
However, if you’re audited by the IRS and the examination report indicates that you committed tax fraud, the IRS agent can recommend criminal prosecution. Then, at that point, you can be arrested if you’re found guilty of tax evasion.
Can the IRS send you to jail?
Breaking the tax law can lead to jail time. Typically, however, the IRS doesn’t send you to jail unless you get arrested as noted above. Instead, you will go through a trail, and if you’re found guilty of tax fraud or evasion, you can go to jail.
FAQs About Audit Penalties
Do you still have questions about tax audit penalties? To help you out, we’ve put together a few questions and answers about tax penalties. If your questions aren’t answered, please contact us directly. We’d love to talk with you about your situation.
Can you go to jail due to failing an audit?
In a worst-case scenario, you can go to jail after an audit. This only happens if you face criminal charges for tax evasion and you’re found guilty. You won’t go to jail for a mistake or if you can prove that there was a reasonable cause for the issue. If you’re worried about tax evasion, you should contact a tax lawyer as fast as you can.
What happens if an audit finds a mistake?
If you get audited and there’s a mistake, you will either owe additional tax or get a refund. Making a mistake is not a crime. Although you may incur some penalties if the mistake is significant, you won’t face criminal charges.
What are the consequences of being audited?
When you’re audited, you have to mail in information or meet with the auditor in an IRS office or at your home or office. The auditor reviews the information on your federal tax return and asks for documents to support your claims. Consequences can include a tax refund, a tax bill, or tax audit penalties. If fraud is involved, the consequences can include criminal charges or penalties.
Does an audit mean you’re in trouble?
Not necessarily. An audit just means that the IRS is checking on your tax return. The federal government needs tax revenue to survive. Audits help to ensure that people are submitting accurate tax returns.
How much does the IRS charge for an audit?
The IRS doesn’t charge you for an audit. However, if you hire a tax lawyer to help you with the audit, they will charge you. Sometimes, when you file your tax return, the tax software or your accountant will offer you audit protection for an additional fee. That means that they help you through the audit if you’re selected by the IRS. In most cases, however, you will need to find a professional to help you.
Which IRS Employees Handle Audits?
Generally, IRS agents handle audits. Then, if the audit leads to a bill and you don’t pay, an IRS officer will attempt to collect the bill. These IRS employees handle different functions.
Get Help Dealing With IRS Audits and Penalties
At the W Tax Group, we are a team of tax professionals who focus on tax issues such as audit penalties. Whether you’re in the midst of an audit, trying to appeal an audit, or just worried about an audit, we can help you. We can also help you seek relief from audit penalties or represent you if you’re facing tax fraud charges. Don’t risk dealing with the IRS on your own. This agency is very powerful, and the tax code is complex. Instead, contact us to get help today.
If you cannot afford to pay the IRS what you owe in one lump sum tax payment you need to consider other options such as making tax payments or using a loan or credit card. For a full list of your solutions, give us a call or sign up for a free tax analysis. When you’ve just learned that you are being audited by the IRS and you can’t pay, you need professional ANSWERS you can count on.
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