The IRS uses a secret computer program to identify potential tax cheats for audits, and researchers with access to the data say they have found large clusters of likely cheaters in five metropolitan areas. Tax experts also say small-business proprietors are more likely to be audited.
WASHINGTON — A study by the National Taxpayer Advocate used confidential IRS data and found that large clusters of potential tax cheats are concentrated in the Los Angeles, San Francisco, Houston, Atlanta, and Washington metro areas. The IRS uses the information to target taxpayers for audits.
The taxpayer advocate, Nina Olsen, runs an independent office within the IRS. She got access to the data as part of an effort to learn more about why some taxpayers are more likely to cheat.
The study also looked at tax compliance in various industries and found that people who own construction or real estate rental firms may be more likely to fudge taxes than other business owners.
Many of the communities identified by the study are very wealthy, including Beverly Hills and Newport Beach in California.
Others are more middle class, such as New Carrollton, Md., a Washington suburb, and College Park, Ga., near Atlanta.
Steve Rosansky, president and chief executive officer of the Newport Beach Chamber of Commerce, said business owners in his city are likely targeted because many are high-income.
The chance of an audit does rise with income, the IRS says.
“I imagine it’s just a matter of them going where they think the money’s at,” Mr. Rosansky said. “I guess if I was running the IRS, I’d probably do the same thing.”
The study focused on small-business owners — sole proprietorships specifically, because they have more chances to cheat.
Many small businesses deal in cash while most individuals get paid in wages reported to the IRS.
The IRS only audits 1 percent of returns each year, so the agency tries to pick those most likely to yield more tax money.
The IRS will not say much about how it chooses its targets.
But as millions of procrastinators scramble to meet today’s deadline to file their taxes, the agency is running every tax return through a confidential computer program to determine the chances of collecting more money from an audit.
Each tax return is assigned a score. The higher the score, the more likely you are to get audited because, according to the IRS, the more likely you are cheating.
The score is called the Discriminant Inventory Function, or DIF. A high score does not guarantee you’re a tax cheat, but the IRS claims it’s reliable.
“If your return is selected because of a high score under the DIF system, the potential is high that an examination of your return will result in a change to your income tax liability,” an IRS publication says about the process.
How do you get high score? The IRS won’t say, but tax preparers and ex-IRS workers think they have a good idea.
“If you’re reporting $8,000 of charitable contributions when you’re only making $50,000, that’s a red flag,” said Bob Meighan, vice president of TurboTax, an online tax prep service.
The bottom line, the experts say: People who take unusually large deductions for their income get a high score. Business owners who claim unusually large expenses for the size and type of their business get a high score.