Investopedia/Troy Segal: What Is the Internal Revenue Service (IRS)?

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Internal Revenue Service (IRS)
Reviewed by Troy Segal
Updated May 5, 2019
What Is the Internal Revenue Service (IRS)?

The Internal Revenue Service (IRS) is a U.S. government agency responsible for the collection of taxes and enforcement of tax laws. Established in 1862 by President Abraham Lincoln, the agency operates under the authority of the United States Department of the Treasury, and its primary purpose includes the collection of individual income taxes and employment taxes. The IRS also handles corporate, gift, excise and estate taxes. People colloquially refer to the IRS as the "tax man."
Key Takeaways

    Founded in 1862, the Internal Revenue Service (IRS) is a U.S. federal agency responsible for the collection of taxes and enforcement of tax laws.
    Most of the work of the IRS involves income taxes, both corporate and individual; it processed nearly 141 million tax returns in 2018.
    Nearly 90% of tax returns are filed electronically.
    After peaking in 2010, IRS audits have been on the decline each year.


How the Internal Revenue Service (IRS) Works

Headquartered in Washington, D.C., the IRS services the taxation of all American individuals and companies. For the 2018 filing season (January 1 through mid-April), it processed more than 140.9 million income tax returns, including both individual and corporate by May 4. During that period the IRS collected more than $3.3 trillion in revenue and issued $282 billion in tax refunds.

Individuals and corporations have the option to file income returns electronically, thanks to computer technology, software programs, and secure internet connections. The overwhelming majority do so. During the 2018 tax-filing season, over 89% of all returns made use of the e-file option.

The number of income taxes that use e-file has grown steadily since the IRS began the program. By comparison, 40 million out of nearly 131 million returns, or nearly 31%, used the e-file option in 2001.

As of April 2017, more than 81.6 million taxpayers received their returns through direct deposit rather than a traditional paper check, and the average direct-deposited amount was $2,932.

Although the Internal Revenue Service (IRS) recommends filing tax returns electronically, it does not endorse any particular platform or filing software.
The IRS and Audits

As part of its enforcement mission, the IRS audits a select portion of income tax returns every year. For the 2017 tax year, the agency audited approximately 1.2 million income tax returns, or 0.6% of all returns filed. This number breaks down to 0.7% of individual income tax returns and 1.1% of corporate tax returns (excluding S corporations). Around 71% of IRS audits occurred through the mail, while 29% happened in the field.

After rising to a peak in 2010, the number of audits has steadily dropped each year. The amount of funding set aside for tax enforcement has declined 20% from 2010 to 2016, which indicates even fewer audits should occur.

Reasons for an IRS audit vary, but some factors may increase the odds of an examination. Chief among them: higher income. In 2017, the overall audit rate was one in 167 tax returns, but for someone who made more than $1 million income, the odds were 1 in 23 returns.

And running your own business carries greater risks too. Individuals making between $200,000 and $1 million in one tax year who don't file Schedule C (the form for the self-employed) have an .8% chance of being audited, vs. 1.6.%—basically double—for those who do.

Other red flags for an audit include failing to declare the right amount of income, claiming a higher-than-normal amount of deductions (especially business-related ones), making disproportionately large charitable donations compared to income and claiming rental real estate losses. No single factor determines who does or does not face an IRS audit each year.
Related Terms
Voluntary Compliance
Voluntary compliance is the assumption that a taxpayer will honestly and accurately comply with income tax laws.
more
Internal Revenue Code (IRC)
The Internal Revenue Code is a comprehensive set of tax laws created by the Internal Revenue Service.
more
Refund
A refund is a payment from the state or federal government for an individual's overpaid taxes.
more
Tax Season
Tax season is the time period between January 1 and April 15 of each year when taxpayers traditionally prepare financial reports for the previous year.
more
Canada Revenue Agency (CRA)
The Canada Revenue Agency (CRA) or Agence du revenu du Canada is a federal agency that collects taxes and administers tax laws for the Canadian government.
more
Form 6251: Alternative Minimum Tax—Individuals Definition
Form 6251: Alternative Minimum Tax—Individuals is a tax form distributed by the IRS to determine the amount of alternative minimum tax (AMT) a taxpayer may owe.
more
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