In 2015, the IRS received more than 146 million individual tax returns and audited 1.2 million of them, a mere 0.8% (IRS 2016). At the same time, the IRS found more than 2.17 million math errors from individual tax returns and sent more than 1.67 million math error notice letters (some returns have more than one error). What are these math errors, and how should taxpayers and tax practitioners respond to them?
MATH ERROR PROGRAM
The IRS uses several programs to check the accuracy of a tax return, and one of these programs is the math error program (Sec. 6213(b)). In this program, the IRS uses computers to screen all tax returns when processing them. When the IRS identifies math or clerical errors (collectively referred to as math errors) in a return, it will recalculate taxes, assess any interest and penalties, and send the taxpayer a letter detailing the math error. It is worth noting that the math error program uses computers to (1) screen all tax returns, and (2) send out notice letters without much human assistance. Different from the IRS audit process, the math error program, especially with the advancement of computer technology, is highly automated and has become an important tool for tax enforcement.
Congress first authorized the math error program in 1926, allowing the IRS to recalculate taxes due to obvious arithmetic errors on tax returns. Since then, Congress has expanded the program to include clerical errors and other math errors in addition to obvious arithmetic errors. The expansion came at the IRS's request, since a regular audit notice was much costlier to the IRS than a math error notice. It is worth noting that detecting math errors is within the capability of computers. If an issue requires subjective judgment, such as underreporting income, the IRS will likely issue an audit notice instead of a math error notice. The sidebar "What Is a Math Error?" lists all the types of math errors with examples. As shown, a "math error" extends beyond making a mistake in adding or subtracting numbers.
DOES A MATH ERROR MEAN A TAXPAYER OWES MORE TAXES?
The good news is that a math error notice does not necessarily mean a bigger tax bill. The bad news is that additional tax liability can be high if a notice is unfavorable. A favorable adjustment occurs when a math error notice increases a taxpayer's refund or decreases his or her balance due. An unfavorable adjustment occurs when a math error notice decreases a taxpayer's refund or increases his or her balance due.
In 2010, the IRS issued more than 6.4 million favorable notices and more than 3 million unfavorable ones (Treasury Inspector General for Tax Administration (TIGTA) Rep't No. 2011-40-059). Overall, only 31% of math error notices required taxpayers to pay more taxes. As shown in the chart "Total Number of Math Error Notices, Total Dollar Value, and Average Dollar Value by Error Type in 2010," the Treasury lost nearly $6.2 billion of tax revenue from favorable math error notices but received an additional $9.5 billion of tax revenue from unfavorable notices. The chart also shows the average dollar value of favorable and unfavorable math error notices. On average, the Treasury lost $963 when issuing a favorable notice but received an additional $3,180 when issuing an unfavorable notice.
A TAXPAYER'S LEGAL RIGHTS ON...