IRS ADOPTS DATA DRIVEN APPROACH TO AUDITS
Earlier this year, the Internal Revenue Service’s tax-exempt organizations division announced that it would be adopting a more data-driven approach when selecting which returns of tax-exempt organizations to audit. The new approach will significantly reduce the IRS’s subjective decisions in deciding who should be selected for audit. The likely result will be that the IRS will cast a wider net with its audits but not necessarily go deeper.
Under the old approach, tax-exempt entities were selected for audit based on certain issues and whether the tax-exempt organizations division felt they were higher risk for not complying.
The new approach will use analytics in deciding which returns should be selected for audit. The IRS will use 150 queries in reviewing form 990. If the organization fails too many of the queries, then it will likely be selected for an audit.
We don’t know the exact queries, but some of the areas are likely to include the following:
Identifying inconsistent information reported on the 990. For example, under the total program service expenses reported on part III, if line 4 doesn’t agree with total program service expense reported on part 9, line 25, column B, then the organization may be selected for an audit.
Reporting amounts in part 8, column (c), but not reporting that a form 990 T was filed on part 5, line 3.
Preparing schedule L reporting insider transactions but reporting on part 6, line 12, that the organization did not implement a conflict of interest policy.
Responding Yes to a Part 4 inquiry but not completing the applicable form 990 schedule.
We have recently been dealing with clients who have especially fallen into the trap presented by the last item.
The IRS reports that it has made adjustments on more than 90% of the returns filed based on the new approach. You therefore need to be mindful of the new audit procedures so that you can focus on both accuracy and completeness. Previously, the IRS was experiencing change rates in the 70% range. The IRS also reports that, under the old procedure, it took an average of 233 days to complete an audit of an exempt organization, but so far in 2016, it takes an average of 213 days.
How should you proceed from here? Considering the new procedures, it is more important than ever that preparers and organizations take extra time to thoroughly review the form 990 and the attached schedules. If you answer a question, for example, that requires supplemental information, make sure that you attach the required additional information. The IRS will consider it no less important just because it is “supplemental” information.
One step you should consider is to have an independent set of eyes reviewing the form and flagging possible problems. While we appreciate that you don’t necessarily want to spend additional funds, the cost of the independent eyes will usually be a lot less than the cost of an audit or the penalties that may go with incorrectly completing the form.
We have experience in preparing and reviewing forms 990, so if you have any questions about it, please give us a call.