State audit vs Federal audit
Whether you have received notice for a state audit, or for a federal audit, both situations are equally serious and should be taken as such. Any Individual can be audited at the state, federal, or both levels, and if any of both audits are not handled carefully and taken seriously, it can result in severe and unexpected consequences.
What is a Tax Audit?
A tax audit is the examination of a taxpayer’s filed tax returns along with other necessary documents to ensure there is no error, inaccuracies or fraudulent activity in their financial reports. A tax audit is the verification of honesty in filing tax returns and it is necessary to ensure the compliance and loyalty of every taxpayer to their tax obligations and to the tax laws. Additionally, there are penalties enforced when a taxpayer is found guilty of non-compliance with the tax code, tax evasion, or fraudulent activities after a tax audit.
What is a State tax audit?
A state tax audit is the examination of a taxpayer’s filed state tax returns along with other necessary documents to ensure there is no error, inaccuracies, or fraudulent activity in that taxpayer’s state financial reports. A state tax audit is a tax audit on financial reports focused mainly on state tax returns and it is usually carried out by the State’s Department of Revenue.
What is a Federal tax audit?
A federal tax audit is the examination of a taxpayer’s filed federal tax returns along with other necessary documents to ensure there is no error, inaccuracies, or fraudulent activity in their federal financial reports. A federal tax audit is a tax audit on financial reports focused mainly on the federal tax returns filed by the taxpayer in question, and it is usually carried out by the Internal Revenue Service (IRS).
What id the difference between state audit and federal audit?
The difference between the state tax audit and the federal tax audit is first seen in the focus of the audit which is state tax returns for state audit and federal tax return for federal audit.
The next difference is in the governing body that carries out the audit which is the state department of revenue for state audit and the Internal Revenue Service in the case of a federal tax audit.
Can I get audited at both state and federal levels?
Even though the auditing body for the state and federal tax are different, they often work hand in hand if there is a case of fraudulent activity or falsehood on the financial reports filed either with the State Department of Revenue or the with the IRS. Generally, a taxpayer is required to file both the federal and state tax returns, and their report of income and financial dealings will reflect in both filed returns. Therefore, an intentional falsehood or tax evasion act with probably appear on both tax returns.
In a situation like this, the IRS may work together with the state department of revenue to verify the claims contained in your financial reports before giving you a notice for a federal audit alongside the state audit notice you’ll probably get from the State Department of Revenue.
Can I get summoned for only a federal or state tax audit?
Since the tax returns being audited by the state and federal auditing bodies are different, it is possible to get summoned for only a federal audit or a state audit. The state focuses on the state tax return while the IRS focuses on your federal tax returns.
Therefore, if a taxpayer makes a tax calculation error on one return and not the other, a need for an audit might come for the tax return with inaccuracy and not both. Also, sometimes, an audit comes as a result of random selection by the state or federal auditing bodies. In such a case where a taxpayer is randomly selected for a federal tax audit, the taxpayer will receive a notice for a federal tax audit without one for a state tax audit.
Tax audit Red flags
Generally, there are major red flags that can trigger both a state audit or a federal audit. Tax situations based on State tax returns that can lead to a state audit will also lead to a federal tax audit if found on a federal tax return. These red flags that can lead to both state and federal tax audit, include but are not limited to:
- Error and Mathematical mistakes in tax calculations when filing state or federal tax returns.
- Under stating tax liabilities
- Over-stating retirement savings
- Not reporting other income sources
- Claiming too many expenses
- Claiming large donations to charity organizations
- Not reporting cryptocurrency.
All these red flags will probably trigger a state audit and a federal audit, however, there are some red flags more specific to lead to a state audit rather than a federal audit. Receiving income from others states rather than the state of residence or owning businesses in more than one state in the country can trigger a state audit rather than a federal tax audit. This case depends on the tax law of the state of residence and the idea of Nexus by the State Department of Revenue.
Penalties in a State and Federal tax audit. Same or different?
The resulting penalties from state or federal tax audits are basically the same. The various possible outcomes of both state and federal tax audits are:
- An individual might scale through the state or federal tax audit successfully without any penalty if all records are found satisfactory by the auditor.
- An individual may be given tax penalties, additional interests, or fines to be paid depending on the level of discrepancy found in the financial records of the taxpayer.
- If a taxpayer is found guilty of willful fraudulent activities or tax evasion, they might end up with a fine and possible jail sentence.
Preparing for both state and federal tax audits
All tax audits, whether state or federal, demand adequate preparation and cooperation on the part of the taxpayer. Both are equally serious and can lead to bad consequences for the taxpayer if not taken seriously. The preparation process for both state and federal tax audits is generally the same.
Firstly in preparation, the taxpayer after receiving a notification for the audit will need to get all the proof and evidence needed to defend the flagged state or federal tax returns. This proof will be in form of receipts, certificates, bills, financial documents, legal papers, business documents, payroll schedules, etc. These records will serve as evidence to support claims on the taxpayer’s filed state or federal tax returns, depending on which is being audited. Next, the taxpayer must enlist the services of a professional legal representative or tax preparer for the audit defense. It is essential that an individual is fully prepared for an audit irrespective of whether it is a state tax audit or a federal tax audit.
A tax audit, whether state or federal, demands to be taken seriously because an irresponsible attitude towards an audit can lead to unwanted complications like fines, interests, or criminal charges.
Even though both state and federal audits are still tax audits, they focus on different tax returns, are governed by different bodies, and are therefore independent of each other. However, the line of communication between both governing bodies is open in the case of serious fraud suspicion or discrepancy on filed tax returns.
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