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An IRS Revenue Agent Report (RAR) is a document prepared by a revenue agent, which is a type of IRS employee who is trained to audit tax returns and determine the accuracy of the information provided.
If you are the subject of an IRS audit and receive an RAR, it is important to carefully analyze the report in order to understand the issues being raised and determine the best course of action.
In this article, we will provide an overview of the process for analyzing an RAR, including reviewing the findings and determining any potential implications for your tax liability. Understanding the content of the RAR and the audit process can help you to effectively respond to the audit and minimize any potential tax liability.
Let’s dive in.
What is an IRS Revenue Agent Report?
The Revenue Agent’s Report is a detailed document describing an IRS examiner’s audit findings. Additionally, the Revenue Agent Report states “the amount of deficiency or refund the agent finds the taxpayer to owe or be owed, respectively.”
Taxpayers have the right to disagree with a revenue agent’s report. If taxpayers disagree, they can challenge the agent’s findings through:
- A formal protest to the IRS Office of Appeals division by appealing to the U.S. Tax Court, or
- Paying the new assessment but then suing for a refund.
If the Revenue Agent Report is unchallenged or upheld, delinquent taxpayers may be subject to increased fines or jail time if they fail to reconcile their tax situation.
Every IRS audit concludes with a Revenue Agent Report which includes all the findings the IRS made based upon the documents and information collected, and the determination IRS has made.
An IRS audit starts with an initial audit letter sent to the taxpayer (in the case of our clients, the business owner). Then the IRS will send an IDR, also called an Information Document Request with a list of documents and information the IRS needs.In some cases a business owner might receive more than one IDR.
The next step is to provide documents and negotiate, communicate with your revenue agent and comply with additional requests for information. At the end of the audit, you will receive a Revenue Agent Report.
Sections of the Revenue Agent Report
Let’s review the sections of the Revenue Agent Report, so you understand where the information is and how to read it.
Adjustments to Income
The first section of the RAR is adjustments to income. This includes anything from income, additional income the IRS found, or even a reduction of income.
Usually, IRS finds additional income. Additionally, the section will include any other adjustments to expenses and potentially even net operating losses.
Corrected Tax Liability
The next section of the RAR is the corrected tax liability. shows the correct amount of tax that the IRS believes you owe, based on the audit findings. This may be different from the amount of tax that you originally reported on your tax return. The corrected tax liability is calculated by adding any additional tax that the revenue agent determined you owe, subtracting any overpayments that the agent found, and making any necessary adjustments to your tax return.
The balance at the bottom of the RAR reflects the total amount of tax that you owe, including any interest and penalties that may have been assessed. It is important to carefully review the corrected tax liability and balance sections of the RAR, as they will provide important information about the tax implications of the audit and any action you may need to take.
If you disagree with the corrected tax liability or the balance, you can contest the findings and seek to resolve the matter through the IRS appeals process.
After the adjustments to income, you’ll find expenses. The expenses on your return are negative, they offset income. If IRS disagrees as to an item of an expense, it will be listed as a positive number to offset the negative number.
Below the corrected tax liability and credits, the Revenue Agent Report will list the balance at the bottom of the first page.
This balance does not include penalties and interest.
The top of page two of the Revenue Agent Report lists the penalties that the IRS has assessed based on the audit findings. Penalties may be assessed for a variety of reasons, such as filing a tax return late, making payments late, or failing to keep adequate records.
One type of penalty that may be assessed is the negligence penalty, which occurs if the IRS determines that you kept poor records and did not have sufficient substantiation for your claims. This penalty may be assessed if the IRS determines that you made errors on your tax return due to a lack of attention or care, rather than an intentional effort to evade taxes.
The IRS may also assess a fraud penalty if they believe that you deliberately and willfully failed to file a tax return on time or deliberately understated your income or overstated your expenses in order to evade taxes. Fraud is considered a more serious offense than negligence and may result in more severe penalties.
It is important to carefully review any penalties listed in the RAR and understand the reasons for their assessment in order to respond appropriately and contest any penalties that you believe are incorrect.
Section 3: Interest and Total Balance
The section on page two of the Revenue Agent Report that lists interest and the total balance is an important part of understanding the tax implications of the audit. Interest is typically assessed from the date that the tax payment was due, which is usually April 15th for individuals and March for corporations.
The RAR may include a broad description of why the full expense was not allowed or why the tax payment was not satisfied. In some cases, the revenue agent may provide more detailed information about the audit findings in the work papers that were used to prepare the RAR. If you want more detail about the audit findings, you can request that the revenue agent provide the work papers to you. These papers may include a factual summary of the information that was exchanged between you and the IRS during the audit process. Having access to this information can be valuable in helping you to understand the audit findings and respond appropriately.
The final section of the Revenue Agent Report is called “Recommendations.” In this section, the revenue agent will list their recommendations for how to resolve the findings. These recommendations are non-binding, but they can be helpful in negotiating with IRS.
If you believe that the revenue agent overlooked some facts and you have some substantiation that’s not being considered by the revenue agent, you should consider communicating with the supervisor and try to get the supervisor involved. File a protest letter within the deadline.
Consider enlisting the help of an experienced tax attorney to navigate the complex situation and efficiently resolve any issues with IRS.
At Milikowsky Tax Law, we have over a decade of experience working with IRS audits and are experts in defending business owners in the face of IRS or other government agency audits.
Read on to learn how to respond to an IRS audit in 2022.
The bank deposit analysis is essential to every single IRS audit.
An IRS Bank Deposit Analysis is a tool used by the Internal Revenue Service (IRS) to help determine whether an individual or business has accurately reported their income on their tax returns. Preparing an IRS Bank Deposit Analysis involves gathering and organizing financial records, including bank statements and other documentation of deposits made into your account(s).
This process can be time-consuming and may require some effort, but it is important to accurately report your income to the IRS to avoid potential penalties and fines.
In this article, we will provide an overview of the steps involved in preparing an IRS Bank Deposit Analysis and offer some tips for making the process as smooth as possible. Let’s begin with reviewing what an IRS bank deposit analysis includes.
What is an IRS Bank Deposit Analysis?
A bank deposit analysis is where the IRS will analyze all the deposits coming into a bank account that you own, either personal or business, and determine whether those deposits are taxable or non-taxable income.
It can be difficult to determine the source of cash deposits, as it is not always clear whether the money was received from the sale of a car or from wages earned through work. As a taxpayer or business owner, it is your responsibility to provide documentation to establish the origin of income and determine whether the deposit is considered non-taxable. It is important to accurately report all income to the Internal Revenue Service (IRS) to avoid potential penalties and fines.
How to Start Preparing for an IRS Bank Deposit Analysis
Here are some steps you can follow to prepare an IRS Bank Deposit Analysis:
Gather financial records: Start by gathering all relevant financial records, including bank statements and any other documentation of deposits made into your account(s). This may include pay stubs, invoices, receipts, and other documentation that supports the sources of the deposits.
Organize the records: Next, organize the records in a way that makes it easy to review and analyze the deposits. This may involve sorting the records by account, timeframe, or source.
Calculate the total deposits: Using the financial records, calculate the total amount of deposits made into the account(s) being analyzed.
Identify the sources of the deposits: Determine the sources of the deposits, such as wages, self-employment income, rents, and other sources.
Determine the taxability of the deposits: Review the documentation provided and consider the taxability of the deposits based on the source of the funds and any applicable tax laws.
Prepare the analysis: Using the information gathered, prepare the IRS Bank Deposit Analysis by completing all relevant sections, including a summary of deposits, a breakdown of deposits by source and account, and any supporting documentation.
The IRS Bank Deposit Analysis Process: How It Works
Let’s dive into the key considerations surrounding the IRS Bank Deposit Analysis process. This includes an overview of how the process operates, as well as the types of information that may be requested from taxpayers in the course of the analysis.
Sources of Income
It may be difficult to determine the source and taxability of certain types of income, such as funds transferred from a credit line or money received from escrow. In these cases, it may be necessary to provide additional documentation or seek clarification from the source of the funds to establish the origin of the income and determine its taxability.
If you receive a check and a copy of it from the IRS, you can use the information on the check to understand where the money is coming from and whether or not it is taxable. It might be helpful to contact the person who wrote the check to confirm the source of the income and why you received it.
The Bank Deposit Analysis is an essential part of every single IRS audit because determining income is essential to every single IRS audit.
Upon completion of the IRS Bank Deposit Analysis, the IRS will prepare a work paper that compares the total deposits identified in the analysis to the income reported on the individual or business’s tax return. If there is a discrepancy between the two, especially if there is an increase in the total deposits, the IRS may assess additional taxes based on the increase in income.
This process may be repeated for each year being audited. It is important to accurately report all income on tax returns to avoid potential assessments of additional taxes and penalties.
If IRS selects the first year for audit as a test year and discovers unreported income, it is likely that additional years will also be audited. However, if the amount of unreported income is relatively small or insignificant, IRS may not conclude that the same errors are occurring in other years. It is important to accurately report all income on tax returns to avoid potential assessments of additional taxes and penalties.
Be Careful with Cash
During an IRS audit, it is advisable to devote significant attention to the Bank Deposit Analysis and maintain thorough records, particularly when depositing cash. It can be difficult to trace the source of cash deposits, so it is important to document the origin of the funds through photocopies of checks, contracts, or other relevant documentation.
Additionally, making a note of the source of cash deposits, such as the sale of a car or the receipt of a contract payment, can help to explain and potentially resolve any issues with the IRS. Accurate record-keeping is crucial in the event of an IRS audit to ensure that all income is accurately reported and to avoid potential assessments of additional taxes and penalties.
Still Have Questions?
Business owners should contact Milikowsky Tax Law if they have any additional questions about how to navigate the IRS audit process.
At Milikowsky Tax Law, we have over a decade of experience working with IRS and tax audits. We’re experts in defending business owners in the face of IRS or other government agency audits.
Interested in learning more? Read on to learn how to respond to an IRS audit.
If you recently received a letter from IRS, there are a few important steps you need to take to protect yourself.
The first step is to contact a qualified IRS Tax Lawyer.
While IRS will occasionally audit businesses randomly, they usually audit an individual or business because your tax return contains an error or a transaction that is inconsistent with other businesses in your industry. Our San Diego IRS attorney explains what steps you should take to ensure you are protected.
Once you receive a notice that IRS intends to audit you, here are a few things you need to do:
- Find Out What Part of Your Tax Return Is Being Audited.
Many times, IRS will only question certain sections of your tax return, such as how you calculated and reported your gross income. This is especially true of self-employed individuals or business owners who are majority owners.
- Gather Your Documents To Prove Items on Your Tax Return.
Once you know the reason that triggered your audit, you need to be able to provide documents to verify your income, expenses, or other transactions reported on your tax return. There are alternative methods to establish your position if you lack direct proof; however, it is important to reach out to your vendors, banks, and other individuals and businesses who have records that are useful in your audit. Banks generally retain your records (i.e. bank statements, canceled checks, etc) for seven years. Businesses that you have done business with generally keep transaction records for 3 years.
- Don’t Ignore the IRS
While you may be tempted to ignore the IRS’ attempt to reach out to you, not responding by the specified deadline will make matters worse. If you do not respond to an audit notice, the IRS will eventually close the audit and assess your taxes based on assumptions the Revenue Agent made. IRS can also contact third parties (i.e. your neighbors, business partners, vendors) who have information useful in your audit.
- Call an Experienced IRS Lawyer
Having an expert by your side to prepare your legal defense, review your documents for potential issues, and handle all discussions with IRS will take a burden off your shoulders and can improve your chances of a successful audit resolution. Remember, anything you say or communicate to IRS can and will be used against you.
If you face an IRS tax audit alone, you are placing your business and assets at risk. Contact an IRS Tax Attorney today.
The Budget Reconciliation Act will re-fund the IRS with audits making up the lion’s share of the way the IRS intends to make back that investment in the Government Department. With the right financial and legal experts at your side, however, you can successfully navigate this complex process. Once you have received notice of an audit, contact our San Diego IRS attorneys! We can investigate your audit and determine your legal and business options.
In the final part of our three-part series “how to respond to an IRS audit in 2022,” the IRS Audit Attorneys here at Milikowsky Tax Law focus on the actual response to Internal Revenue Service (IRS).
Watch the video below to learn more from Milikowsky Tax Law’s Founder and Managing Attorney, John Milikowsky, as he explains how to craft the right response.
The Initial IRS Audit Letter
When IRS sends the initial IRS audit letter, they send Letter 6323 initiating the audit. This initial letter gives small businesses 10 days to contact the assigned revenue agent. The reason for the quick turnaround time is to schedule an appointment with the assigned revenue agent to go through a litany of questions to determine the following:
- What income do you have
- What sources were they from
- Whether you have cryptocurrency
- What form of bank accounts did you use
- And more
What Should You Do After Receiving IRS Letter 6323?
After receiving IRS Letter 6323, review your business’s tax return before meeting with a tax attorney. Partnering with a trusted tax attorney will help guide you to understand the scope of what this audit involves. Moreover, this tax attorney can help create your response to the initial letter within the 10-day timeframe.
What Happens If I Don’t Respond to IRS Letter 6323?
Failure to respond to IRS Letter 6323 in a timely manner will result in an Information Document Request (IDR). The IDR includes bank statements along with any other information relating to what is reported on a tax return—or includes whatever additional information IRS has in their database.
Businesses that fail to respond to IRS requests typically result in the following: The government agency will estimate the business’s income along with disallowing most, if not all business expenses and any other deductions. The business’s income is typically a higher amount than what is reported on the income tax return. Why? Because IRS doesn’t have the source information.
Anticipate IRS summoning your bank account because they don’t need a court order to do so. A revenue agent can send a signed document to your bank requesting all of your bank statements, canceled checks, and deposit items in order to estimate what income should be.
They don’t, however, have the ability to receive the source documents for your expenses. If it relates to your business or charitable contributions, the agency will not look into that—which means they will be disallowed.
More times than not, failure to reply to IRS Audit Letter 6323 does not benefit your business. After the audit review, if you do not respond to IRS Letter 6323, the government agency will calculate a much higher number for taxes due than what’s on your tax return. Because of this, it’s encouraged to respond to IRS in a timely manner.
Another negative consequence of failing to respond to IRS is it can increase the scope of the audit to other issues that IRS may not have been originally looking at, as well as additional years than originally intended.
What To Do If You Receive Audit Letter 6323?
If your business receives Audit Letter 6323 from IRS, contact a tax attorney and your CPA. They will help defend your business against the consequences of an IRS audit.
By partnering with a tax attorney and your CPA, you recruit a team of experts who:
- Comb through your source documents
- Understand each of your deposit items in your bank account
- Ensure accurately reported income
- And more
This way, you are prepared to fight back from IRS claims and come out unscathed on the other side.
An added benefit of partnering with an attorney is protection through attorney-client privilege. If your business misfiled taxes, accidentally or purposefully, you are protected by attorney-client privileges.
Communication with a CPA is not protected in the same way. A trusted CPA, especially if your case leads to any type of fraud or criminal investigation, could be summoned before a grand jury, along with the information requested from him or her.
From day one, speak with a San Diego tax attorney to make sure you have the best strategy implemented, and that your communications are protected.
For more information regarding IRS audits, read our article explaining five signs your business is prepared for an audit by IRS.
IRS Letter 6323 and Bank Deposit Analysis
In part two of our three-part series “how to respond to an IRS Audit in 2022” we discuss IRS letter 6323 and the bank deposit analysis. For every audit IRS opens, they conduct a bank deposit analysis to determine whether you correctly reported your income on your income tax return.
Watch John Milikowsky, Managing Attorney and founder of Milikowsy Tax Law explain more on IRS Letter 6323 and their bank deposit analysis below.
What is a Bank Deposit Analysis?
During a bank deposit analysis, IRS adds up all of the deposits from all of your bank accounts: both personal and business. Once gathered, they compare the amount they calculate to the amount you reported on your income tax return.
Keep in mind that there are, of course, non-taxable deposit items. Provide these source documents to IRS to ensure the numbers match. Such items include:
- Transfers between bank accounts
- Drawing money from a line of credit
- Insurance proceeds (which are generally non-taxable, although they may be in certain citations)
If you don’t provide all of your bank statements to IRS- including both business and personal accounts- IRS will summon your bank directly to receive your statements and deposit items.
Learn more about IRS looking into your bank deposits here.
The agency summons your statements because they need to confirm whether you’ve accurately reported income on your tax return.
The best practice to prepare for an audit in 2022 is to collect these items ahead of time, and then review the statements with your CPA and tax attorney. If during your review you determine that there’s a significant difference between income reported and actual income found after review, it will need to be explained.
The gap in reported pay versus actual pay sometimes occurs accidentally (or intentionally in the case of fraud) by miscalculating income because you left out some income. If this occurs, it can lead to a grey area where the support of an experienced tax attorney will help defend your business. Any communication you have with your tax attorney is attorney/client privilege- which means it is protected information. IRS does not have access to it.
Review your deposit analysis ahead of time with your CPA or tax attorney to implement a strong strategy for your specific case. If there is an explanation for why the income wasn’t reported, make sure you clarify why it occurred before IRS provides that information to you. If the agency finds the discrepancy first, it puts you at a disadvantage to then review source records and then come up with an explanation.
For more information, read our last part of the three-part series in “how to respond to an IRS audit in 2022” here.
IRS Letter 6323 and What to Do Before Contacting IRS
Small business owners should be prepared in case the Internal Revenue Service decides to audit your business. Watch part one of our three part series for advice on how to defend your business against a battle with IRS. In this video, our founder and managing attorney, John Milikowsky explains five things to do before you respond to an IRS audit letter.
Identify the Taxpayer
Before diving into your audit letter, first identify who the taxpayer is on the top left corner of the letter. If the letter is addressed to you as an individual, IRS is primarily looking at your 1040 return.
This can include other companies you own or control where the income and/or losses are being reported on your individual return.
If the letter addresses your company’s name, then you can expect a broader audit. A broader audit can impact other shareholders and partners.
Identify the Revenue Agent
After identifying the taxpayer, review who the revenue agent is. The revenue agent can be located either inside of your city or outside of your city.
If the agent is located outside of your city, we recommend you question why.
Recently, we defended a client in a battle against IRS. The client is based in Los Angeles, but their revenue agent was based in Chicago, Illinois. This identified larger issues at play- IRS was potentially looking at not only this tax return but possibly other tax returns as well. In this case, they could be part of a broader, national audit.
Identify the Tax Year Being Audited
Confirm the tax years IRS is auditing. Ask yourself, “Is it a single-year audit?” or “is this audit for more than one tax year?”
Typically IRS will audit three years of tax returns. Initially, they may begin with a single-year audit. Depending on the results of the audit, they’re may explore other years to identify a trend.
IRS can audit as far back as 6 years, if there’s gross understatement of income. If there is fraud involved, IRS can audit an unlimited number of years.
Typically, if IRS is looking at a 5-year block of time, they are looking at a potential fraud issue- which could lead to a criminal investigation. Before they can determine if a case involves fraudulent activity, IRS will review your returns in detail to identify any incriminating information.
Identify the Issue(s) that Triggered the Audit
Read the audit letter to identify what issue(s) are being identified for audit. This is not an expensive all-inclusive list, however, it is a starting point for IRS.
During an audit, IRS always reviews income on tax returns and evaluates if that information reported was accurate, not understated. How do they evaluate your income statement is accurate? IRS does so by conducting a bank deposit analysis: they collect all of your bank statements, both personal and business, to determine whether you reported the correct amount of income.
When assessing income, there are times income for an individual may be reported in a business account or vice versa. During the audit, IRS ensures they capture all of your transactional information, and that it’s accurately being reported. Anticipate IRS asking for:
- Bank statements
- Cancelled checks
- Deposit images
IRS also looks at your expenses. When looking at your expenses, they are looking for source documents, such as, invoices. They are checking payments, to verify that you not only incurred the expense, but also that you paid for it.
The purpose of gathering this information is to verify the deposits are income and not non-taxable income such as insurance proceeds that would not normally be taxed. The only way IRS can reach that bottom line number is by reviewing the source documents.
Identify the Response Deadline
IRS will identify a deadline by which you must respond to their letter by. Generally, the revenue agent will give you 10 days to respond to the initial letter- you are not yet providing the documents requested. This initial response serves the purpose of:
- Contacting the the revenue agent
- Scheduling an appointment to provide the requested records
During the first appointment, you will go through an interview with your assigned IRS agent. Your agent will walk through a whole litany of questions to understand:
- The scope of what income looks like for you
- Whether you received an inheritance for instance
- Whether you received any large transfers
- Whether you have any cryptocurrency
- And more
Best practice is to contact a tax attorney to review the questions ahead of time. Credibility is one of your most valuable assets during an audit. When you first meet with IRS and communicate with them, their agents will judge whether you’re credible and whether the information you’re providing is forthcoming and truthful. If IRS deems you are not, they will launch a deeper dive.
For more information on IRS audits in 2022, read the second part of our series by clicking the link here.
Common Types of Federal Tax CrimesThe law enforcement branch of the IRS is the IRS Criminal Investigation Division (CID). If you are under investigation for possible tax crimes, then you could be facing serious penalties, including criminal prosecution under felony penalties. Federal tax crimes may include:
- Tax evasion
- Tax fraud
- Failure to file
- Money laundering
- Failure to collect employment taxes
What to DoIf you believe that you have exposure for a criminal tax matter or been the target of a criminal investigation, you must speak with our San Diego tax lawyers immediately. If you receive a call from a special agent from the IRS CID, you must always assert your right to an attorney. Do not assume that you have to answer any questions. You have the right to remain silent and you should always consult with your lawyer before speaking with any type of federal investigator. Anytime the IRS tries to make contact with you, this may be a sign that you are currently under investigation by the IRS. It will be crucial to act quickly and retain an experienced and hard-hitting attorney who can fight on your behalf.
IRS Badges of FraudTypically, the Internal Revenue Service (IRS) looks for specific “red flags” that may suggest tax evasion or other forms of tax crimes. The IRS may accuse someone of fraud from what are commonly referred to as “Badges of Fraud.” The badges of fraud include the following acts:
- Understatement of income or failure to report all income
- Failure to keep adequate records
- Implausible/inconsistent explanations of behavior
- Hiding assets
- Non-cooperation with tax authorities
- Concealing illegality
- Dealing in excessive amounts of cash
- Failing to make estimated tax payments
- The IRS has also published a list of various categories of IRS indicators of fraud.