Streamlining the audit process TEI member follow-up responses: August 7, 2002.

On August 2, 2002, the Institute provided the Internal Revenue Service with the following responses to a follow-up survey by the Large and Mid-Sized Business division on ways to streamline the audit process. The responses were primarily provided by members of the Institute's IRS Administrative Affairs Committee, whose chair is David L. Bernard of the Kimberly-Clark Corporation.

1. The first topic is the issue of materiality. We'd like to know what thoughts you might have on the content or scope of a materiality standard within LMSB. This standard does not necessarily need to be a quantifiable number. In fact, the design team has already identified many pitfalls to a numeric standard.

   (a) In addition, do any of your members have any key concepts for materiality or experiences where some type of standard was effectively established?

   (b) Also, if some type of materiality standard was set at the beginning of an examination, would the taxpayer be willing to apply this standard for affirmative issues and/or claims, and thereby forego any issue that fell below the established standard?

   Response #1: Given the diversity in the size of taxpayers, a quantifiable number would be difficult to derive. On our last cycles, we set materiality numbers for timing differences. For rollover effects within the audit cycle (e.g., 1998 adjustment reversing in 1999), we agreed on a number below which timing difference would not be pursued. We also agreed on a smaller number for issues that reverse in the year following the cycle (e.g., 2000 for the 1999 adjustment). Permanent differences are still in play, but an informal basis exists for deciding to pass on the ones that show small potential. For small permanent differences, I will not make an affirmative claim. To make this work, the taxpayer must also show some restraint. (This issue was raised a few years ago by an IRS agent when I spoke at a CEP educational program. He questioned why only the IRS should concede smaller issues. It's a good question.)

   Response #2: I would like to address the topic of materiality in a tangential way. If a taxpayer has an audit cycle of three years or less and the audit adjustment being proposed would turn completely within that particular audit, why not have a rule that the IRS will not make that particular audit adjustment, regardless of the amount of the proposed adjustment? If that is not possible, perhaps we could use the same rationale for proposed audit adjustments that are $1,000,000 or less--a higher threshold...