Bank Deposit Analysis In Tax Controversies

The IRS attempts to identify and reduce non-compliance through increased efficiency in its core business operation, the conduct of taxpayer examinations, and enforcement. Within Examination, the IRS maintains internal processes that identify issues and returns having significant audit potential for the assessment of deficiencies. The IRS has modified its Examination process to increase resources available to and experience of its agents. Toward this end, a primary process modification the IRS has implemented is increased reliance on bank deposit analysis.

Bank deposit analysis is an indirect audit, or investigative technique, whereby a Revenue Agent determines that an understatement of income exists based on analysis of the deposits to the taxpayer’s bank account, rather than on return information related to specific substantive issues. At one time, this investigative technique was reserved for cash intensive businesses that received a significant amount of receipts in cash. This could be a business such as a restaurant, grocery or convenience store that handles a high volume of small dollar transactions. It could also be an industry in which its practices include cash payments for services, such as construction or trucking, where independent contract workers are generally paid in cash.

Today, our experience is that a majority of business and personal audits conducted by the IRS use the bank deposit method of computing deficiencies; which, on its on face, represents a simple, straight forward approach; but underneath is one that is very complex. Bank deposit analysis is very complicated to apply and analyze without a thorough understanding of the technique. Fact is, the vast majority of users inside the IRS and those defending taxpayers against deficiencies determined by use of bank deposit analysis do not understand it, fail to analyze the underlying data in the context of the applicable tenets of this investigative technique and generally use the calculation incorrectly.

Taxpayer’s representative must review and correctly analyze the Revenue Agent’s figures and computation. Inquires must address questions such as those that follow. Did the Revenue Agent properly investigate each deposit? Did the Revenue Agent correctly take into account beginning and ending cash on hand? Were year-end deposits and withdrawals properly considered? Is money deposited income from a prior year? Did the Revenue Agent remove non-taxable amounts, such as loan proceeds? It is this process that we refer to as the forensic accounting review of the IRS’ work product.
The reality is that it is difficult to fight bank deposit analysis in the initial administrative, civil examination. While one would hope a detailed analysis of the Revenue Agent’s bank deposit methodology always results in appropriate changes to the Revenue Agent’s report, all too often, the administrative pressure to close files results in proposed deficiencies based on simple, yet flawed, methodologies. In this case, the client is best served when the Revenue Agent’s errors are preserved for appeal.

In a criminal context, charges based on bank deposit analysis raise complications for both the taxpayer and the government. Early review by counsel of the government’s figures and computation can often save the client the embarrassment of arrest or the notation of a dismissed criminal indictment. Indeed, a flawed bank deposit analysis used as the predicate of a criminal prosecution, properly analyzed by counsel and timely addressed with prosecuting counsel at the United States Attorney’s Office, the United States Department of Justice or the state Attorney General’s office, may well result in dismissal of the matter, hopefully, prior to indictment because errors in the government’s case-in-chief totally change the nature of their case.
A flawed bank deposit analysis, properly analyzed by counsel, may be easy to defeat at trial; however; should the Government proceed to trial, the client must be indicted and incurs the expense of trial. Perhaps more problematic is that an unrealistic deficiency, based on flawed methodology, skews plea negotiations. The overstated tax at issue may translate into a higher perceived risk of jail time under the Federal sentencing guidelines because the suggested duration of incarceration is based on the amount of tax at issue. For the same reason, the inflated amount of tax at issue may embolden the Government’s resolve to proceed to trial. The client may thereby be wrongly intimidated into agreement with the Government’s case.

If the matter goes to trial, the taxpayer may benefit from having had the deficiency determined by the bank deposit method. The government must prove its case beyond a reasonable doubt. This is sometimes difficult because the bank deposit method is only an indirect method of proving intent and often confuses a jury. On the other hand, where the Government proves guilt on a subset of the facts that might be at issue, say by evidence developed by the specific identification methodology, the use of the much greater amount of tax at issue, determined by the bank deposits methodology, often serves to increase the range of sentencing because the Government need only support its range of recommended time of incarceration based on a determination of tax at issue by a preponderance of the evidence, rather than the higher burden required to prove guilt, a result approved by the federal judiciary.
We bring to the table seasoned IRS professionals, who retired from the IRS, who are well versed in the application of forensic accounting principles in tax controversies. The experience, preparation and diligence with which we serve clients help resolve the controversies that arise from the IRS Examination process.

Need Help With IRS Problems? Contact Atlanta Tax Attorney Jack Fishman. Call (404) 320-9300 To Schedule Your FREE Consultation Now.

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