An IRS audit becomes high risk once the examiner develops fraud concerns. Under IRS guidance, a Fraud Enforcement Advisor (FEA) is brought in as a specialized fraud resource to help personnel identify, document, and guide cases toward civil fraud penalties or a criminal tax referral to IRS criminal tax investigators. When an FEA gets involved, the examination often shifts from substantiation to fraud-development procedures and intent-focused fact development. Examiners often begin probing for intent, scrutinizing affirmative acts, and constructing a defensible timeline against third-party evidence.
An IRS Fraud Enforcement Advisor (FEA) is a specialized SB/SE division employee who acts as a crucial link between civil revenue agents and IRS Criminal Investigation (CI) to identify, develop, and handle cases with potential civil or criminal fraud. FEAs ensure that fraud investigations follow proper procedures, providing guidance on, and assisting in the referral of, cases involving deliberate tax evasion.
We treat potential FEA involvement as a serious procedural inflection point because IRS procedures require personnel to elevate fraud indicators through management and the FEA when they suspect potential fraud. IRS procedures require additional internal steps once personnel suspect potential criminal tax fraud, including suspending certain civil actions and notifying the group manager and the Fraud Enforcement Advisor. Examiners must also carefully control their words with taxpayers. Even when the IRS remains civil, fraud development quickly triggers sweeping information demands, more rigorous interviews, aggressive reliance on third-party records, and a significant risk of expanding across years and entities.
How the IRS Develops Fraud in an Examination
The IRS does not need anyone to admit to fraud. IRS rules focus on “fraud signs” alternatively known as “badges of fraud” and treat finding fraud as a matter of collecting facts that show intentional wrongdoing, not just sloppy bookkeeping. Auditors often start looking for fraud when they see things like missing income, altered or falsified records, the use of third parties or nominee entities to hide ownership, or explanations that do not match what others report.
This change matters because the results get more serious. In civil fraud cases, the IRS can assert a 75 percent civil tax fraud penalty on the portion of an underpayment attributable to fraud. In non-fraud cases, the IRS can assert a 20 percent accuracy-related penalty in defined situations, including negligence and substantial understatement scenarios. The IRS documents fraud indicators in the examination workpapers, consults the FEA as a specialized resource, and follows fraud-development procedures that support civil fraud penalty consideration or referral decisions as the facts develop. if the facts suggest potential criminal fraud, the IRS follows a formal referral process to IRS Criminal Investigation that includes FEA involvement and required referral documentation, including Form 2797. IRS procedures can require exam personnel to suspend actions without disclosing the reason, and they must not give a false or deceitful response if a taxpayer asks why the activity stopped. That is why audits may become quiet but ask for more documents and use stricter communications at the same time.
Escalation Signs That Often Appear When Fraud Development Starts
IRS personnel typically do not announce fraud suspicions to the taxpayer during development but fraud development cases often send clear warning signals. While no single tell guarantees criminal tax referral, these are urgent risk markers. Address them immediately with disciplined, experienced dual-licensed tax attorneys & CPAs-led control:
- The examiner shifts from substantiation to intent testing, focusing on “why” and “how,” not just “what,” and pushing for narratives that lock you into specific timing, knowledge, and decision points.
- Requests for documents now require original data, bank records, invoices, and other records to determine whether documents were created during normal business or solely for the audit.
- The IRS checks information with employers, payers, or vendors, and looks for outside records to see if your story matches official data.
- The examiner becomes stricter in interviews, avoids informal talks, asks for written answers, and is careful about who speaks for the taxpayer and how answers are given.
- The audit may cover more years or related businesses, especially if the IRS believes the same pattern repeats, money flows between entities, or the taxpayer is hiding facts through structures.
These signals align with the IRS fraud-development playbook. Fraud cases rely on consistency and evidence of deliberate actions. The danger escalates right after the first fraud indicators appear. Improvised explanations, late record repairs, or allowing an inadequately briefed preparer to speak can create new risks instantly. Any mismatch with third-party data can increase risk and may support adverse inferences about credibility or intent.
How to Respond Without Creating New Criminal Tax Exposure
If you suspect fraud development, treat every communication as potential evidence. The IRS uses internal coordination during fraud development and limits what it reveals about possible criminal tax charges. Never expect an examiner to warn you or your representative before the case shifts to an intent-based accusation.
Adopt an urgent, document-first response and keep communications under tight control. Align all records, bank activity, invoices, source documents, ledgers, and entity flow—before providing any explanations. Any amendment, late “repair,” or reconstructed support is high-risk without airtight, timely documentation. Such moves can instantly create the inconsistencies that the IRS keys in on in developing a fraud case.
California state tax exposure can follow quickly when the same facts affect California filing, sourcing, or residency positions, so you should evaluate state and federal risk together when the fact pattern supports it. For example, federal fraud development can instantly draw state scrutiny when income, residency, or entity flows intersect with California tax obligations. The California Franchise Tax Board may rapidly pursue civil or criminal tax investigations. Assume a coordinated defense is essential when facts support both state and federal risk. Do not treat this as only a single-agency issue.
Contact the Tax Law Offices of David W. Klasing if You See Fraud Escalation Tells
Contact the Tax Law Offices of David W. Klasing at the first sign of fraud development. If your audit shifts from routine substantiation to intent testing, or if you see the examiner relying on specialized fraud resources, act now. Fraud development changes everything. The IRS stops debating paperwork and aggressively builds a case around knowledge, willfulness, and affirmative acts. You need attorney-led control over every communication to block admissions and prevent inconsistencies that can turn a civil exam into a criminal case.
Contact the Tax Law Offices of David W. Klasing immediately if your audit spans years or entities, or if it involves third-party corroboration. High-risk audits hinge on whether your story aligns with banks, payers, vendors, and accounting data. Our dual-licensed team urgently builds a fact-checked, document-driven record and deploys a defense strategy to reduce exposure and stop criminal tax escalation.
Begin with a confidential, reduced-rate initial consultation by calling (800) 681-1295 or by booking a reduced rate initial consultation through our online contact form HERE.
