MW The IRS is pulling back on some audits - but not everyone can breathe a sigh of relief

Andrew Keshner

With massive IRS staff cuts, can rich households expect the agency to ease up on audits?

Audits are the Internal Revenue Service's tool for spotting red flags in people's tax returns. But with massive cuts to the agency's workforce, the question now is whether the tax collector is waving the white flag on these probes.

It would be easy to think that's what's happening, but tax experts warn it's too soon for easy conclusions - because even with a smaller staff, the agency still has plenty of enforcement capabilities at its disposal.

The IRS has been a focus of President Donald Trump's efforts to trim government ranks. His administration has cut approximately 7,000 IRS staffers clustered in compliance work, though these employees were reportedly offered their jobs back - at least for now - as a result of court orders. Approximately 5,000 IRS staffers took a "buyout" offer that applied to most federal workers.

Now come the initial stages of deeper staff cuts at the IRS that could continue after tax season concludes next week. The exits include IRS Acting Commissioner Melanie Krause, who is reportedly planning to step down after the agency reached an information-sharing agreement with Immigration and Customs Enforcement authorities.

The results of those staffing cuts have been abruptly ended audits, suddenly transferred cases and audits that end before they start, according to Rochelle Hodes, a principal at Crowe's Washington National Tax office - though some other audits are proceeding. "I'm trying to divine a pattern and I'm not able to," she added.

Tax attorney Travis Thompson sees the same disruption. Twice last month, IRS staff who handle audit appeals didn't show up for scheduled phone calls about his clients' audit cases, said Thompson, counsel at Boutin Jones. "That is something that has never happened in my career."

But Robert Nassau, director of the Syracuse University College of Law's Low Income Taxpayer Clinic, hasn't experienced sudden changes or pauses in the audits he defends against. "I haven't seen any of that," he said. "I wouldn't mind seeing a little of that."

How often does the IRS audit taxpayers?

The tax collector pledged to do more audits of rich people and businesses under former President Joe Biden's administration - but for most others, the chances of an audit were already quite low. The IRS audited less than 0.5% of all individual income-tax returns in 2019, according to the most recent finalized audit rate from the agency.

The likelihood of an audit for ordinary wage earners is unlikely to change much under Trump's IRS, the experts said.

"For W-2 employees and 1099 employees, I don't think there's much change," said Thompson, referring to the tax forms that report an employee's wages and a contractor's pay, respectively - the latter of which is a mainstay of the gig economy. "A lot's automated, anyway."

If the agency can spot the red flags on a tax return via automated review, tax professionals said, there's a strong chance those flags will stay flapping. But if a tax return requires a human touch to understand complex tax issues - a scenario that most commonly applies to the tax returns of rich households and corporations - it may fly under the radar given the IRS's reduced capacity for enforcement, they noted.

"I don't know what the IRS priorities will be. They haven't made that particularly clear. But I can tell you I bet the number of in-person exams will go down," said Hodes. If a smaller-staffed IRS hands more of the audit work over to computers, taxpayers will have an even harder time navigating the system, she added.

The agency is now considering staff cuts that are part of a larger goal to improve and innovate revenue collection and taxpayer services, a Treasury spokesperson told MarketWatch. "The rollback of wasteful Biden-era hiring surges, and consolidation of critical support functions, are vital to improve both efficiency and quality of service," the spokesperson said.

If history is a guide, it may be a mistake to assume the recent reports of shuttered or disrupted audits guarantee rich taxpayers will get the hands-off treatment under Trump's IRS.

In 2020, during the first Trump administration, Treasury Secretary Steven Mnuchin ordered the IRS to audit at least 8% of tax returns over $10 million. The IRS last year told a Treasury watchdog agency it eventually stopped trying to hit the 8% audit rate because too many exams yielded no extra taxes. The IRS told the watchdog it was shifting to Biden-era priorities on tax enforcement, including greater scrutiny of businesses, partnerships and households making over $400,000.

Krause will remain acting commissioner until at least May 15. Until then, "she will continue the hard work of restructuring and modernizing the IRS," the Treasury spokesperson said.

Republicans have whittled away the IRS budget for tax enforcement

Biden signed the Inflation Reduction Act into law in 2022, giving $80 billion to the IRS over a decade. Republicans voted against it, concerned about what they saw as overzealous auditors and wasted cash. Their subsequent attempts to claw back money from the IRS drew criticism that they wanted to go easy on rich tax cheats.

About $5 billion of that sum was allocated to upgrade the agency's technology, which still includes fax machines. Case in point: After Thompson didn't hear from the IRS staffers assigned to his case, he faxed a letter to document that he had called.

Meanwhile, approximately $45 billion of the total was supposed to pay for tougher enforcement on businesses and households making at least $400,000. The rest of the money was for operations support and customer service.

Biden's IRS was just starting to staff up and launch programs to rake in back taxes and unfiled returns from delinquent millionaires starting in late 2023. The IRS also launched audits against law firms, hedge funds and complex partnerships.

Republicans have succeeded in whittling down the enforcement-related funding over the years. Approximately $20 billion was redirected after 2023 debt-ceiling negotiations. Then another roughly $20 billion was rescinded via a recent bill averting a government shutdown, a House Appropriations Committee aide confirmed to MarketWatch.

Many IRS observers across the political spectrum still think it's worth it to invest in improved customer service. Customer service matters for tax revenue too, they note, because it helps tax filers better understand and fully follow complex rules.

What triggers an IRS audit?

The IRS is waiting for people to file tax returns, but it already has a good sense of what those returns should show. Employers send forms like a W-2 for wages, while 1099s report payments for contract jobs and gig work. Brokerages, bond issuers and banks also send tax forms about earnings and interest. The IRS receives copies of all of these forms.

When a tax return doesn't match the information the IRS has, the agency sends an underreporting notice. The notice is a proposal by the IRS for the taxpayer to adjust their income, payments, credits or deductions, the tax collector says. A string of these notices can lead to an audit, Thompson noted.

Because this scrutiny is already computer powered, Thompson doesn't foresee big changes resulting from the IRS staff cuts. Nassau agreed: "Those sort of automated underreporting audits, I can't see them stopping," he said. "The computers are just going to spit those out" unless programmed to stop.

The IRS also says it's on to social-media-fueled schemes urging people to overstate money withheld for taxes on W-2s, 1099s and elsewhere. The agency imposes accuracy-related penalties, and when it catches a whopper that substantially understates tax liability, the IRS penalty is 20% of the underpaid tax plus interest.

IRS audit rates can vary by income level

"Until we have a major shift in certain priorities, the status quo will remain the same," said Eric Hylton, a former head of the IRS division for small-business and self-employed taxpayers.

At a high level, that means a sustained focus on wealthier taxpayers, said Hylton, national director at the tax consultancy Alliantgroup. Specifically, that includes scrutiny of red flags like dubious claims of residency in Puerto Rico, shell companies for contractors or underreported cryptocurrency earnings.

If the priorities remain the same on paper, but there's less staff to execute them, "yes, you may have to do less. Hopefully you can infuse technological advancements," said Hylton. Still, it will "take some serious time" for AI-powered tax enforcement to reach maturity, he said.

A focus on ensuring wealthy people's tax compliance is also going to take some continuing high-level expertise from experts at the IRS who understand tax laws for partnerships, high-net-worth taxpayers, pass-through businesses and other sophisticated entities, Thompson noted.

That's at the top of the income spectrum. Working-class taxpayers have their own audit questions related to claims for the earned-income tax credit, or EITC, a complicated provision where payouts hinge on the number of children in the house.

For the 2019 tax year, the IRS audited fewer than 1% of returns claiming the EITC in a process that usually plays out through paper correspondence. The IRS recommended people pay an extra $1 billion collectively after those audits.

Those audit rates waned under the Biden administration, after the IRS addressed racial disparities in EITC audits. Nassau has noticed the declining rate and is "curious to see if the IRS decides it's one area it can ramp up."

When IRS funding was previously cut, that increased audits on poor people while audits on rich people slowed, said Omeed Firouzi, director of Temple University Beasley School of Law's low-income taxpayer clinic. "I fear and expect that the same pattern will play out now," he said.

MW The IRS is pulling back on some audits - but not everyone can breathe a sigh of relief

Andrew Keshner

With massive IRS staff cuts, can rich households expect the agency to ease up on audits?

Audits are the Internal Revenue Service's tool for spotting red flags in people's tax returns. But with massive cuts to the agency's workforce, the question now is whether the tax collector is waving the white flag on these probes.

It would be easy to think that's what's happening, but tax experts warn it's too soon for easy conclusions - because even with a smaller staff, the agency still has plenty of enforcement capabilities at its disposal.

The IRS has been a focus of President Donald Trump's efforts to trim government ranks. His administration has cut approximately 7,000 IRS staffers clustered in compliance work, though these employees were reportedly offered their jobs back - at least for now - as a result of court orders. Approximately 5,000 IRS staffers took a "buyout" offer that applied to most federal workers.

Now come the initial stages of deeper staff cuts at the IRS that could continue after tax season concludes next week. The exits include IRS Acting Commissioner Melanie Krause, who is reportedly planning to step down after the agency reached an information-sharing agreement with Immigration and Customs Enforcement authorities.

The results of those staffing cuts have been abruptly ended audits, suddenly transferred cases and audits that end before they start, according to Rochelle Hodes, a principal at Crowe's Washington National Tax office - though some other audits are proceeding. "I'm trying to divine a pattern and I'm not able to," she added.

Tax attorney Travis Thompson sees the same disruption. Twice last month, IRS staff who handle audit appeals didn't show up for scheduled phone calls about his clients' audit cases, said Thompson, counsel at Boutin Jones. "That is something that has never happened in my career."

But Robert Nassau, director of the Syracuse University College of Law's Low Income Taxpayer Clinic, hasn't experienced sudden changes or pauses in the audits he defends against. "I haven't seen any of that," he said. "I wouldn't mind seeing a little of that."

How often does the IRS audit taxpayers?

The tax collector pledged to do more audits of rich people and businesses under former President Joe Biden's administration - but for most others, the chances of an audit were already quite low. The IRS audited less than 0.5% of all individual income-tax returns in 2019, according to the most recent finalized audit rate from the agency.

The likelihood of an audit for ordinary wage earners is unlikely to change much under Trump's IRS, the experts said.

"For W-2 employees and 1099 employees, I don't think there's much change," said Thompson, referring to the tax forms that report an employee's wages and a contractor's pay, respectively - the latter of which is a mainstay of the gig economy. "A lot's automated, anyway."

If the agency can spot the red flags on a tax return via automated review, tax professionals said, there's a strong chance those flags will stay flapping. But if a tax return requires a human touch to understand complex tax issues - a scenario that most commonly applies to the tax returns of rich households and corporations - it may fly under the radar given the IRS's reduced capacity for enforcement, they noted.

"I don't know what the IRS priorities will be. They haven't made that particularly clear. But I can tell you I bet the number of in-person exams will go down," said Hodes. If a smaller-staffed IRS hands more of the audit work over to computers, taxpayers will have an even harder time navigating the system, she added.

The agency is now considering staff cuts that are part of a larger goal to improve and innovate revenue collection and taxpayer services, a Treasury spokesperson told MarketWatch. "The rollback of wasteful Biden-era hiring surges, and consolidation of critical support functions, are vital to improve both efficiency and quality of service," the spokesperson said.

If history is a guide, it may be a mistake to assume the recent reports of shuttered or disrupted audits guarantee rich taxpayers will get the hands-off treatment under Trump's IRS.

In 2020, during the first Trump administration, Treasury Secretary Steven Mnuchin ordered the IRS to audit at least 8% of tax returns over $10 million. The IRS last year told a Treasury watchdog agency it eventually stopped trying to hit the 8% audit rate because too many exams yielded no extra taxes. The IRS told the watchdog it was shifting to Biden-era priorities on tax enforcement, including greater scrutiny of businesses, partnerships and households making over $400,000.

Krause will remain acting commissioner until at least May 15. Until then, "she will continue the hard work of restructuring and modernizing the IRS," the Treasury spokesperson said.

Republicans have whittled away the IRS budget for tax enforcement

Biden signed the Inflation Reduction Act into law in 2022, giving $80 billion to the IRS over a decade. Republicans voted against it, concerned about what they saw as overzealous auditors and wasted cash. Their subsequent attempts to claw back money from the IRS drew criticism that they wanted to go easy on rich tax cheats.

About $5 billion of that sum was allocated to upgrade the agency's technology, which still includes fax machines. Case in point: After Thompson didn't hear from the IRS staffers assigned to his case, he faxed a letter to document that he had called.

Meanwhile, approximately $45 billion of the total was supposed to pay for tougher enforcement on businesses and households making at least $400,000. The rest of the money was for operations support and customer service.

Biden's IRS was just starting to staff up and launch programs to rake in back taxes and unfiled returns from delinquent millionaires starting in late 2023. The IRS also launched audits against law firms, hedge funds and complex partnerships.

Republicans have succeeded in whittling down the enforcement-related funding over the years. Approximately $20 billion was redirected after 2023 debt-ceiling negotiations. Then another roughly $20 billion was rescinded via a recent bill averting a government shutdown, a House Appropriations Committee aide confirmed to MarketWatch.

Many IRS observers across the political spectrum still think it's worth it to invest in improved customer service. Customer service matters for tax revenue too, they note, because it helps tax filers better understand and fully follow complex rules.

What triggers an IRS audit?

The IRS is waiting for people to file tax returns, but it already has a good sense of what those returns should show. Employers send forms like a W-2 for wages, while 1099s report payments for contract jobs and gig work. Brokerages, bond issuers and banks also send tax forms about earnings and interest. The IRS receives copies of all of these forms.

When a tax return doesn't match the information the IRS has, the agency sends an underreporting notice. The notice is a proposal by the IRS for the taxpayer to adjust their income, payments, credits or deductions, the tax collector says. A string of these notices can lead to an audit, Thompson noted.

Because this scrutiny is already computer powered, Thompson doesn't foresee big changes resulting from the IRS staff cuts. Nassau agreed: "Those sort of automated underreporting audits, I can't see them stopping," he said. "The computers are just going to spit those out" unless programmed to stop.

The IRS also says it's on to social-media-fueled schemes urging people to overstate money withheld for taxes on W-2s, 1099s and elsewhere. The agency imposes accuracy-related penalties, and when it catches a whopper that substantially understates tax liability, the IRS penalty is 20% of the underpaid tax plus interest.

IRS audit rates can vary by income level

"Until we have a major shift in certain priorities, the status quo will remain the same," said Eric Hylton, a former head of the IRS division for small-business and self-employed taxpayers.

At a high level, that means a sustained focus on wealthier taxpayers, said Hylton, national director at the tax consultancy Alliantgroup. Specifically, that includes scrutiny of red flags like dubious claims of residency in Puerto Rico, shell companies for contractors or underreported cryptocurrency earnings.

If the priorities remain the same on paper, but there's less staff to execute them, "yes, you may have to do less. Hopefully you can infuse technological advancements," said Hylton. Still, it will "take some serious time" for AI-powered tax enforcement to reach maturity, he said.

A focus on ensuring wealthy people's tax compliance is also going to take some continuing high-level expertise from experts at the IRS who understand tax laws for partnerships, high-net-worth taxpayers, pass-through businesses and other sophisticated entities, Thompson noted.

That's at the top of the income spectrum. Working-class taxpayers have their own audit questions related to claims for the earned-income tax credit, or EITC, a complicated provision where payouts hinge on the number of children in the house.

For the 2019 tax year, the IRS audited fewer than 1% of returns claiming the EITC in a process that usually plays out through paper correspondence. The IRS recommended people pay an extra $1 billion collectively after those audits.

Those audit rates waned under the Biden administration, after the IRS addressed racial disparities in EITC audits. Nassau has noticed the declining rate and is "curious to see if the IRS decides it's one area it can ramp up."

When IRS funding was previously cut, that increased audits on poor people while audits on rich people slowed, said Omeed Firouzi, director of Temple University Beasley School of Law's low-income taxpayer clinic. "I fear and expect that the same pattern will play out now," he said.

(MORE TO FOLLOW) Dow Jones Newswires

April 12, 2025 09:00 ET (13:00 GMT)

MW The IRS is pulling back on some audits - but -2-

Yet there still is the IRS's 2022 pledge not to use any Inflation Reduction Act money to increase audits on people making under $400,000, and the tax agency's challenges following the pledge. "We will see if they keep their promises," Firouzi said.

While the IRS audited 0.3% of 2019 individual returns, it reviewed 0.8% of the returns claiming the earned-income tax credit.

Can the IRS afford to go easier on taxpayers?

The IRS collected 96% of the federal government's revenue in 2023, according to the Yale Budget Lab. But staff cuts at the tax collector may make some taxpayers think they can get away with cutting corners, and that could cost the government even more money, according to Yale researchers.

In the 2023 fiscal year, the IRS raked nearly $40 billion through audits and other compliance methods. That's a drop in the bucket: For 2022, the so-called tax gap - the difference between what people are supposed to pay the IRS and what they actually pay - was projected at more than $600 billion even after collections, enforcement and penalties, according to the IRS's most recent estimates.

Some accountants have talked down clients who thought they could get away with not filing a tax return this year. The thinking was the IRS would overlook the unfiled taxes, but the accountants noted the IRS still has ways to turn the screws.

While the IRS determines the extent to which it will pursue audits on rich households and companies, the Trump administration needs to consider the budget impact of a lighter touch, said Thompson. "Whether that's a good thing or a bad thing for funding the Treasury, I'll leave it up to the politicians," he said.

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-Andrew Keshner

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April 12, 2025 09:00 ET (13:00 GMT)

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