Increased Audit Risk as a Result of Inflation Reduction Act

[Julio Gonzalez]

The Inflation Reduction Act of 2022 was signed into law on August 16, 2022. As part of this new act, the IRS was allocated $78 billion to hire around 87,000 new employees through the end of 2031. Of the 87,000, not all are expected to be enforcement staff. They are expecting to also hire auditors, customer service staff, IT, legal support and invest in “investigative technology. However, over half of the allocation is being directed towards enforcement staff meaning that the IRS will likely increase their search for red flags in tax returns.

As this relates to real estate, it is now more crucial than ever that you have the proper documentation for any tax credits or tax deductions that are taken on your tax return. Due to the heightened scrutiny that is to be expected, real estate investors that receive a cost segregation study should ensure that it is performed by a licensed engineer at an experienced firm that provides thorough documentation, detailed reports and is willing and able to provide a high level of audit defense if needed.

When shopping around for a cost segregation company, ensure that they utilize both an itemized cost estimate approach as well as a detailed engineering approach that is based on actual cost records. The use of both methods is strongly recommended by the IRS to produce the most trustworthy and accurate results. The IRS will be able to spot red flags immediately such as sloppy work or weak evidence to support the depreciation.

This isn’t to say that you shouldn’t receive cost segregation studies on your properties as the tax savings potential is still very significant. Just be extra diligent in selecting where you receive the study from.

If you are interested in the IRS Audit Technique Guidelines for Cost Segregation that walks through the considerations made by the auditors, I have linked it here.