4.2.6  Examination of Employee Returns

Manual Transmittal

March 04, 2013

Purpose

(1) This transmits revised IRM 4.2.6, General Examining Procedures, Examination of Employee Returns.

Material Changes

(1) Editorial changes were made throughout this IRM. Also, website addresses, legal references, and IRM references were reviewed and updated as necessary. Other significant changes to this IRM include the following:

IRM Reference Description of Change
IRM 4.2.6.2 (2) Changed first sentence from 5 to 6 categories. Added as the second category "current employees who have not previously held an auditable position and who are newly hired into an auditable position." Added language to the third category that defined a regularly classified employee return. This modification is pursuant to a Memorandum of Understanding between the IRS and the National Treasury Employees Union Regarding the Initiative for New Employees Hired Into Auditable Positions and Current Employees Newly Hired Into Auditable Positions.
IRM 4.2.6.2.1 (1) Removed the language "Prior to January 2006, the hand written word “employee” will be on the Form 5546 (C). After January 2006, the typed words “Employee Return” will be on the Form 5546 (C)."
IRM 4.2.6.2.1 (4) and IRM 4.2.6.2.10 (1)(a) Removed references to Form 9984-D for office examination use. Changed the word "case " in the first sentence to "return. " Change the phrase "the case" in the second sentence to "examining the return."
IRM 4.2.6.2.1 (2) Added Project Code 1030.
IRM 4.2.6.2.5 (3) Added new paragraph 3.
IRM 4.2.6.2.5 (4) Modified paragraph 4(a) to eliminate reference to the employee information sheet. Added language regarding the statement to notate on Form 8111 if an employee does not provide a signed Form 8111. Modified paragraph 4(b) to clarity that Form 8111 is given to bargaining unit employees.
IRM 4.2.6.2.8 (2) Changed the word "examination" to "investigation" in the first sentence.
IRM 4.2.6.2.9 (1) Edited first sentence of paragraph 1 to clarify that labor relations may contact the examiner to determine the audit status.
IRM 4.2.6.2.10 (1)(c) Added Item c.
IRM 4.2.6.3 (1) Add language that clarified employees subject to audit based on IRS employment.
IRM 4.2.6.3 (3) Changed MACS to CDE.
IRM 4.2.6.3 (6) and (7) Deleted paragraphs 6 and 7, which referenced Form 2677 and the EDP- Employee Audit Website.
IRM 4.2.6.4 and IRM 4.2.6.5 Reversed the order of these two subsections.
IRM 4.2.6.4 (1) Added a note that mandatory review is centralized in Baltimore Technical Services (TS).
IRM 4.2.6.5 (1) Modified paragraph 1 to:
  • Delete the reference to formal and informal claims

  • Remove the last sentence that read, "An informal claim is known as an audit reconsideration."

IRM 4.2.6.6 (2) Added clarifying language.
IRM 4.2.6.6 (4) Changed Planning and Special Programs (PSP) to TS.
IRM 4.2.6.7 (3) Edited to advise the examiner to documentation requirement when a signed Form 8111, Employee Notification Regarding Union Representation, is not provided. The examiner will write "Discussed and Solicited a Signed Form 8111—Employee Did Not Provide Signed Form 8111" on the file copy of Form 8111.

Effect on Other Documents

This revision supersedes IRM 4.2.6 dated June 1, 2007.

Audience

Small Business/Self-Employed (SB/SE), Large Business and International (LB&I), Tax Exempt and Government Entities (TE/GE), and Wage and Investment (W&I) examination personnel.

Effective Date

(03-04-2013)

Signed by
Bradley Bouton
Director, Examination Policy
Small Business/Self-Employed

4.2.6.1  (06-01-2007)
Employee Tax Compliance

  1. As the administrators of our nation's tax system, our dedication to the highest standards of ethical behavior and conduct promotes the public trust in our honesty, fairness and efficiency. Therefore, IRS employees are expected to fully comply with all tax laws by accurately reporting and timely filing their federal, state, and local tax returns and fully paying their taxes when due. This includes paying the proper amount of tax (e.g., estimated tax payments and withholding) as income is earned during the tax year. RRA 98 sections 1203(b)(8) and (b)(9) provide for the removal of IRS employees who willfully fail to file any return of tax required under the Internal Revenue Code of 1986 on or before the date prescribed therefore, or who willfully understate federal tax liability respectively. To this end, the IRS has established a comprehensive employee tax compliance program. Employees' accounts will be subjected to examination, underreporter, and annual delinquency check procedures.

  2. Each area has an employee tax compliance coordinator. The employee tax compliance coordinator is located in the area Planning and Special Programs (PSP) office. A list of coordinators may be found at the Employee Audit Contacts menu on the following website: http://mysbse.web.irs.gov/exam/tip/emplaudit/contacts/default.aspx.

4.2.6.2  (03-04-2013)
Examination of Employee Returns

  1. IRM 1.2.13.1.7, Policy Statement 4-9, Highest Integrity Expected, provides that standard IRS procedures relating to examinations, proposed changes, appeal rights, etc., will apply to IRS employees to the same extent they apply to all other taxpayers.

  2. Examination of employee returns are generally in six categories:

    • New employee examinations

    • Current employees who have not previously held an auditable position and who are newly hired into an auditable position

    • Regularly classified employee examinations (returns that are classified under regular circumstances, such as DIF, but happen to be an employee)

    • Executive selections

    • Treasury mandated audits

    • Special projects to address identified employee compliance problems

4.2.6.2.1  (03-04-2013)
Identification of Employee Returns

  1. Examiners should review Form 5546, Examination Return Charge-Out Sheet, on every case file to determine if it reflects the words "Employee Return." This designation can be found about one third of the way down from the top of the Form 5546.

  2. The examiner should also check for a project and or a tracking code. The following project codes or tracking codes or both apply to employee audits:

    • 0206 – Executive selections project code

    • 0207 – Treasury mandates project code

    • 0389 – New employees project code

    • 0913 – Employee audit transferred from campus project code

    • 1030 – Criminal Investigation (CI) pre-hires project code

    • 7569 – Employee audits tracking code

      Note:

      A tracking code is used to track an employee examination that originated in a source code other than Source Code 46, Employee Returns. An employee audit tracking code takes priority over all other tracking codes. Therefore, it is critical that the employee audit tracking code be input on the Examination Returns Control System (ERCS). If the group cannot update the employee audit tracking code, the group should request the update be made by the area employee tax compliance coordinator. The group cannot update a case to an employee tracking code if a tracking code is currently present.

  3. When special projects are initiated to address identified employee noncompliance, they may be assigned a unique project and or tracking code.

  4. If a return has not been pre-identified as an employee return and it is found to be an employee return after further inspection/examination, the examiner should notify his or her supervisor and the area employee tax compliance coordinator as soon as possible. The employee tax compliance coordinator will discuss with the examiner's manager whether the examiner may proceed with examining the return or whether it should be reassigned. The words "employee return" should be written at the top of the Form 5546. The employee tax compliance coordinator will input the employee audit Tracking Code 7569. The examiner will document actions taken on Form 9984, Examining Officer's Activity Record.

  5. Conversely, if a return has been pre-identified as an employee audit and the employee is no longer employed with IRS, the words "employee return" should be crossed through on the Form 5546 with a notation on Form 5546 that the employee is no longer with IRS. The examiner's group manager and the area tax compliance coordinator should be notified of the change in employment status. See IRM 4.2.6.2.10, Resignation of the Employee.

4.2.6.2.2  (03-04-2013)
Examiner Impartiality

  1. Examiners must ensure impartiality and independence when examining an employee return. If examiners have any reason to believe that their impartiality and independence may be questioned, they should discuss the matter with their immediate supervisor for reassignment consideration.

  2. The impartial and independent character of examinations of IRS employees and officials must be ensured. See IRM 4.1.4.2.10, Employee Audits, for guidelines on assignment of employee returns for examination.

4.2.6.2.3  (06-01-2007)
Assignment of Employee Returns

  1. Employee audits are high priority cases and should be assigned within 10 business days of arrival into the group.

4.2.6.2.4  (06-01-2007)
Examiner Travel to the Employee Location

  1. When an examiner is assigned an employee return for examination and the employee is located in another post-of-duty, the examiner is authorized to travel to the employee's business, residence, or other location where the books and records are maintained. All travel costs will be borne by the examining area.

4.2.6.2.5  (03-04-2013)
Conducting the Employee Examination

  1. An examination of an employee generally should be worked as a normal examination. The employee under examination should not be given preferential treatment nor should the employee be held to a higher standard than any other taxpayer under examination.

  2. Normal pre-contact responsibilities apply to an employee audit. The examiner should use current risk based decision tools in any decision to adjust the scope of the examination. See IRM 4.10.2, Pre-contact Responsibilities.

  3. Normal required filing checks apply to an employee audit. See IRM 4.10.5, Required Filing Checks.

  4. Employee audits are very sensitive and require certain modifications to the examination process. The following modifications must be made:

    1. The examiner should use the normal and appropriate initial appointment letter to begin the examination. See IRM 4.2.6.7 for employee interview procedures.

    2. The examiner should include Form 8111, Employee Notification Regarding Union Representation, with the initial contact letter provided to bargaining unit employees and attempt to secure a signed copy before the initial interview takes place. The Form 8111 is used to secure the employee's acknowledgement that he or she has been advised of his or her right to union representation during the interview pursuant to 5 USC 7114(a)(2)(B). If the employee does not provide a signed Form 8111, the examiner will notate "Discussed and Solicited a Signed Form 8111—Employee Did Not Provide Signed Form 8111" on Form 8111 and proceed with the interview. See IRM 4.2.6.7 (2)(a) examiner's documentation required.

    3. Employee tax examinations are to be kept in an orange file folder at all times.

  5. The employee audit website is located at http://mysbse.web.irs.gov/exam/tip/emplaudit/contacts/default.aspx.

4.2.6.2.6  (03-04-2013)
Examination of Spouse’s Separate Return

  1. The return of an employee’s spouse who has filed separately should be inspected as part of the required filing checks to determine if it should be examined. A copy, RTVUE, or CDE print of the spouse’s return must be included with the employee’s return if it is not examined. See IRM 4.8.4.2.4.3, Key Points for Reviews.

  2. If the spouse’s return is examined, each Form 3198, Special Handling Notice for Examination Case Processing, should be cross referenced with the taxpayer identification number (TIN) of the related return.

4.2.6.2.7  (03-04-2013)
Violations of the Code of Conduct

  1. If facts are disclosed during the examination that indicate an employee may have engaged in any activity in violation of the rules of employee conduct, the examiner should refer to Document 12011, Plain Talk About Conduct and Ethics Handbook, and consult with his or her manager.

4.2.6.2.8  (03-04-2013)
Fraud

  1. Current civil and criminal fraud procedures will be followed, where applicable. See IRM 25.1, Fraud Handbook. Certain fraud technical advisors (FTA) have been designated to assist with employee examinations. The FTA should be identified in the packet that accompanied the case file. If no information is available, contact the manager of FTA Group 5 or the area's employee tax compliance coordinator.

  2. If a joint investigation is initiated with Criminal Investigation on an employee audit, Form 2677, Request for Account History and Tax Audit, should be immediately sent to the originating IRS employment office identified in Section 3 of Form 2677.

4.2.6.2.9  (03-04-2013)
Contacts with Labor/Employee Relations

  1. Labor/employee relations (LR/ER) specialists will occasionally request an update on the audit status. Their request should be directed as follows:

    1. If the case was recently closed from the group and sent for mandatory review, the LR/ER specialist should contact the local Technical Services group manager for the area office from which the case closed, as well as, the Baltimore Technical Services group manager.

    2. If the case is assigned to an examination group, the LR/ER specialist should contact the group manager.

4.2.6.2.10  (03-04-2013)
Resignation of the Employee

  1. If the employee under examination resigns, the examiner should take the following actions:

    1. Notify the area employee tax compliance coordinator of the resignation and document this activity on the Form 9984, Examining Officer's Activity Record.

    2. Discuss the scope of the examination with his or her group manager. Based on the facts and circumstances of the case, the examination scope may need to be concluded, limited, or continued as planned. See IRM 4.10.2, Pre-contact Responsibilities.

    3. Remove the employee audit designation project code because the case is no longer subject to mandatory review. The "Other" box under Special Features section of the Form 3198 should be checked with a notation the case is no longer an employee examination. No mandatory review required.

    4. Update case status if an employee resigns before notification of the examination is made. The case status should be changed from one of high priority to that of an informational referral case. The group manager should decide whether to retain the case and work it into inventory or to survey it using survey procedures. See IRM 4.2.6.6, Survey of Employee Returns, below for additional detail.

4.2.6.3  (03-04-2013)
New Employee Examinations

  1. Current employees newly hired into auditable positions and new employees in auditable positions must undergo employee tax return reviews or examinations or both.

  2. The employee tax compliance coordinator establishes controls on employee examinations and builds the case file.

  3. The package sent to the group should contain the following items:

    • Return(s) (original, copy, RTVUE, or CDE print) and

    • CFOL reports of account history for the open years and information return processing (IRP) transcripts.

  4. Employee returns will be examined in the same manner as all individual income tax returns, which include conducting minimum income probes and required filing checks.

  5. If the primary reason for the examination of a new employee’s return is consideration for employment and the individual is no longer employed by IRS or is no longer being considered for employment, the examiner must discuss the scope of this case with his or her group manager. See IRM 4.2.6.2.10. The examiner should notify the employee tax compliance coordinator of the change in the employee's employment status.

4.2.6.4  (03-04-2013)
Closing an Employee Examination

  1. All employee audits are mandatory review, thus the "employee audit" box in the "Forward to Technical Services" section of Form 3198, Special Handling Notice for Examination Case Processing, must always be checked regardless of the type of closure (this includes surveys).

    Note:

    The group closes an employee audit case to their local TS office. The local TS office will forward the case to Baltimore Technical Services for review. See IRM 4.8.4.2.4, Employee Audits.

  2. In the case of a joint return, identify the name and social security number (SSN) of the IRS employee on Form 3198 by checking the "other" block in the "Forward to Technical Services" section and notate the name and SSN of the employee on the lines provided.

  3. Technical Services will close the case to the appropriate Centralized Case Processing (CCP) office.

  4. Once the case is closed from Technical Services, CCP will forward the required employee audit information in the case file to the requesting official such as Labor/Employee Relations, Treasury Inspector General Tax Administration (TIGTA), or IRS Personnel Security.

4.2.6.5  (03-04-2013)
Audit Reconsiderations

  1. An employee may avail themselves of the audit reconsideration process. Refer to IRM 4.13, Audit Reconsiderations, for information concerning the audit reconsideration process and procedures.

  2. Employee audit reconsideration cases that are selected will be sent to the appropriate area PSP office for assignment and control. The case should be returned to the group and examiner that originally worked the case. Employee audit reconsideration cases are high priority cases. They are given the same priority status as employee audit cases.

  3. The purpose of the audit reconsideration is to examine information that was not previously considered. The examiner should review IRM 4.13.4.3, Area Office (AO) Examination Group Procedures, for guidance and procedures for examining and closing an audit reconsideration case.

4.2.6.6  (03-04-2013)
Survey of Employee Returns

  1. Survey procedures are applicable only to new employee examinations and regularly classified returns. Treasury mandates (TIGTA referrals) and executive selections cases cannot be surveyed.

  2. Once an IRS employee's return has been selected for examination and assigned to a group, it can only be surveyed with written approval. This survey action must include a description of any documents and or other information used to draw this conclusion. Surveys are subject to mandatory review. See IRM 1.2.43.40, Delegation Order 4-40, IRS Employees’ Returns Selected for Examination, for the appropriate approving official.

  3. When an examiner believes that an examination of an employee's return would result in no material change in tax liability, he or she may apply survey after assignment procedures. The examiner will prepare a Form 1900, Income Tax Survey After Assignment, stating the reasons for the survey action. If the examiner's group manager concurs, he or she will approve the case and forward it to the Territory Manager for his or her consideration and final approval on Form 1900. Refer to IRM 1.2.43.40, Delegation Order 4-40, for the appropriate approving official.

  4. If the group manager decides an employee's return should be surveyed before assignment, the group manager should follow the survey after assignment procedures as outlined in the preceding paragraph. The group manager should forward the case file to TS after securing his or her territory manager's approval.

  5. Check the "Employee Audit" box on Form 3198, Special Handling Notice for Examination Case Processing, in the "Forward to Technical Service" section, when closing the case.

4.2.6.7  (03-04-2013)
Employee Interview Procedures

  1. The initial interview in an employee tax audit has increased significance, as the outcome of the examination may initiate a conduct investigation. The examiner’s interview questions should adequately probe the employee’s role in preparation of the return, participation in any businesses, investments, income producing activities, and the employee’s role in identifying expenses or adjustments to income.

  2. The examiner’s initial interview of an employee may be considered an investigatory interview and the employee may elect to have union representation.

    1. The examiner should provide the employee with a copy of Form 8111, Employee Notification Regarding Union Representation, with the initial contact letter, discuss Form 8111 before conducting the initial interview, and request the employee sign Form 8111 to acknowledge notification of his or her contractual rights. If the employee does not provide a signed Form 8111, the examiner will notate "Discussed and Solicited a Signed Form 8111—Employee Did Not Provide Signed Form 8111" on Form 8111 and proceed with the interview. The interview should not be delayed in order to secure a signed copy of Form 8111.

    2. The examination should not be unreasonably delayed to secure union representation.

    3. An IRS employee is barred from appearing on behalf of any taxpayer as a representative before any federal, state, or local governmental agency, in an action involving a tax matter except on written authorization of the Commissioner of Internal Revenue Service. A union representative may be present and represent the employee in a conduct issue (5 C.F.R. section 3101.106, Additional Rules for Internal Revenue Service Employees, subsection (b)(2)).

  3. IRC 7521(c) generally prohibits IRS from requiring a taxpayer to accompany the taxpayer's recognized representative to an audit in the absence of an administrative summons. However, IRC 7521(d) provides that IRC 7521(c) shall not apply to investigations relating to the integrity of any officer or employee of the IRS. Since an audit of an employee relates to the integrity of the employee and may result in a disciplinary or adverse action against the employee, the employee's recognized representative may not attend the audit in lieu of the employee, although the recognized representative may accompany the employee to the audit.

    Note:

    A recognized representative is any attorney, certified public accountant, enrolled agent, enrolled actuary, or any other person permitted to represent that taxpayer before the IRS who is not disbarred or suspended from practice before the IRS and who has a written power of attorney executed by the taxpayer.

  4. An employee will be granted administrative leave to attend a tax audit or a discussion of the employee’s own tax affairs.

  5. An employee will not be granted administrative leave to prepare for an examination.


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