For procedures for working IMF audit reconsiderations see IRM 4.13, Audit Reconsideration.

Audit Reconsiderations for BMF are sent to BMF Classification for determination.

Classification is the process of determining:

According to Policy Statement P-4-21, the primary objective in identifying tax returns for examination is to promote the highest degree of voluntary compliance.

Due to limited resources, the IRS can examine only a small percentage of the returns filed. The classifier’s role is to ensure that these resources are used effectively.

The classifier must decide which returns are most in need of examination. Thorough examination promotes the highest degree of voluntary compliance. See Exhibit 4.19.11-1for an overview flowchart of the Campus Examination Operations.

Classification should be conducted by the most technically proficient experienced examiners, who have received appropriate tax law training.

The Operations Manager, Examination, ensures that each employee assigned to Classification is able to recognize and identify a tax return that has an early statute expiration, and is aware of the statute control procedures.

The examiner should be familiar with the Classification Handbook.

Once you determine that the return will not be accepted as filed, decide if the examination should be conducted by a:

This determination is based upon:

Do not exclude substantial issues to convert what would be a Revenue Agent examination to a Tax Auditor examination.

Do not exclude substantial items from the checksheet to convert what might be an interview examination to a correspondence examination.

The number of issues, standing alone, do not determine whether or not the return is to be examined by a Revenue Agent or a Tax Auditor.

Examples of items which generally cause the return to be identified for field examination:

Training Returns—Selected returns meeting training criteria are identified during each classification detail. Corporate returns with Activity Code 219 or higher may be classified for single issues for LMSB Remote Examinations.

Single issues should generally not be examined. Experience has shown that when other questionable items are not present on the return, these examinations frequently result in insignificant or no tax change.

Considerations which should cause a return to be selected for Correspondence Examination:

The following are general guidelines. Some program objectives may overlap between:

Pre-Contact Analysis - Returns may contain issues which, based on the classifier's judgement and experience, require examination planning and analysis by a Tax Auditor before contacting the taxpayer.

Examples of types of returns which may be subject to pre-contact analysis:

DIF and Non-DIF tax returns are selected for examination:

The DIF system is used to evaluate the examination potential of:

In addition, returns possessing certain features are characterized as automatic or special feature returns. They are routed directly to Examination Classification function for manual screening for exam potential.

All individual returns are computer scored under the DIF system.

Some returns are identified as Specials.

Order them as noted below:

Below are specific actions needed on some returns delivered as Specials:

Certain individual low and medium non-business returns are conducive to correspondence-type examination.

These returns are scored using the same DIF formulas as other returns within those Examination Classes but are computer identified as " DIF CORR" returns.

CORR returns are intended to be used for the Campus Examination Program.

Returns identified as "DIF CORR" can be ordered by SB/SE Area Offices with prior written approval from the Compliance Director.

Corporation returns are either computer scored under the DIF system or manually classified.

The Corporation DIF system, available for ordering in bulk, includes:

These returns are computer identified and maintained on the Master File, and should have a sample ordered via the DIF ordering system.

An optional procedure would be to classify these returns pulled by the Statistics of Income Division (SOI) before shipment to SOI:

Certain corporation returns are identified as Specials based on specific conditions.

These returns are automatically delivered to Examination for screening without a return order and are listed below:

When there are multiple audit codes use the following priority:

Corporation returns claiming credits which are not provided for in the ADP Handbook used by Code and Edit operation at the campuses, will be sent to the appropriate Submission Processing Campus Examination.

Campus Examination will determine if the credits warrant examination and send the return back to Code and Edit advising them accordingly.

If the return warrants examination, it will be processed as a special return, Audit Code 3 (Miscellaneous).

S Corporation returns are either computer scored under the DIF system or manually classified. The S Corporation DIF system, available for ordering in bulk, includes:

High Asset 1120S returns, Activity Code 290 (See LEM 4.19.1) are:

Certain S Corporation returns are identified as Specials based on specific conditions.

When there are multiple audit codes use the following priority:

All partnership returns are identified under the DIF system and are available for bulk ordering. They will fall into one of the following Audit Classes:

Certain partnership returns are identified as Specials based on specific conditions.

When there are multiple audit codes use the following priority:

The document specific area will assign an indicator (DIF-1041-CD) that will post to the Master File. It will identify the presence of certain line items checked on the original return. One of six values (01 through 06) will be assigned and will help in determining which audit selection category code should be used.

AIMS will use the audit selection category codes to determine in which activity code to open a case (496, 497, or 498). All three activity codes can either be processed automatically or be placed on the 1041 DIF inventory. Placement will be determined by the DIF-1041-CD and the possible presence of any audit codes on the returns. Below is a list of valid 1041 audit codes:

All REMIC returns should be ordered ratably through the entire file year.

This will ensure that sufficient returns in each class are available to accomplish the Area Offices’ classification plan, if applicable.

All REMIC returns should be sent to Ogden for classification.

The Area Office selection rate in prior years should be considered when ordering returns.

The Amended Returns Inventory contains Category B (paid) claims.

Each of the following categories represents a separate inventory of amended returns which may be ordered by using Form 8199, Amended Returns

Category B claims are added to each of the inventories based on the taxpayer explanations for filing claims.

The Category B claims are inventoried by, and must be ordered by, the year the claims were filed, not by the tax year of the returns for which the claims apply.

The highest dollar claims will be delivered first.

Identify all returns with international characteristics. SBSE International Program has been or will be absorbed by LMSB International. All International Returns should be sent to Ogden for classification.

These returns may be:

Classified returns that are accepted for international issues, are then to be classified for domestic issues.

The international examiner, subject to Area Office instructions to the contrary, will not screen returns for domestic issues.

Classification stamps are provided for use by international examiners to identify selected and accepted international returns. Procedures are as follows:

Specialized check sheets available for use for international classification:

Ensure that:

All international returns that meet the criteria for Large/Mid-Size Business (LMSB) will be separated by:

Every foreign corporation, whether a resident or nonresident, which is subject to tax under Subtitle A of the Internal Revenue Code must file a Form 1120F (U.S. Income Tax Return of a Foreign Corporation ). However, a foreign corporation which at no time during the taxable year is engaged in a trade or business in the United Stated:

If required to file a return, a foreign corporation that has no gross income for the taxable year is not required to complete the return schedules but:

A Form 1120F is similar to Form 1120 filed by a U.S. corporation.

The major difference is an additional section on Form 1120F for U.S. source income not effectively connected with a U.S. trade or business.

Unlike a U.S. corporation, which is required to include worldwide gross income on Form 1120, a foreign corporation only includes on Form 1120F:

1120F returns are filed at the Philadelphia Campus.

Those companies with primary books and records located in an Area Office will be transferred to the Campus servicing that Area Office.

The location of the books and records is determined from the address in Question D, page 1 of the 1120F return.

All returns with foreign addresses in Question D of the 1120F are processed for classification at the Philadelphia Campus.

Philadelphia Campus transmits domestic address (Question D, page 1) returns to the respective Campuses on Form 3210, indicating: "Expedite: Forms 1120F - International returns to be classified. " However, these returns should be forwarded to the Ogden campus for classification.

Forms 1120FSC, U.S. Income Tax Return of a Foreign Sales Corporation, are filed at the Philadelphia Campus.

Philadelphia Campus transfers the returns to the service/customer Campus which services the Area Office where the taxpayers primary books and records are located (domestic address on the return.) However, these returns should be forwarded to the Ogden campus for classification.

These returns are transmitted on Form 3210, indicating: Expedite: "Forms 1120FSC - International returns to be classified. "

Although the FSC provisions were repealed effective October 1, 2002, the Interest Charge Domestic International Sales Corporation (IC-DISC) provisions remain in effect.

IC-DISC file Form 1120 IC-DISC.

Generally IC-DISC are not subject to tax.

However, the shareholders of an IC-DISC are:

However, these returns should be forwarded to the Ogden campus for classification.

All 1040 returns with Form 2555 are first screened by Director, International, Office of Compliance-Examination LM:I:C:E auditors.

Austin Campus will transmit domestic address returns on Form 3210, indicating: "Expedite: Form 1040 with Form 2555-International returns to be classified" to

.

Every U.S. person who either creates a foreign trust or transfers property (including money) to a foreign trust’s must file a Form 3520, U.S. Information Return, Creation of or Transfer to Certain Foreign Trusts, on or before the due date of the U.S. persons income tax returns including extensions.

Additionally, if the foreign trust has one or more U.S. Owner/beneficiaries, the U.S. person must file a Form 3520-A, Annual Information Return of Foreign Trust with U.S. Owner ,by the 15th day of the 3rd month following the end of the trusts tax year.

The Form 3520, and the Form 3520-A are filed at the Ogden Submission Processing Campus (OSPC).

The Form 3520 received at OSPC is processed into the Business Master File (BMF) under MFT 68.

Form 3520-A is processed on the BMF under MFT 42.

If the related return is already open, the copy of the Form 3520-A will be forwarded for association, if requested.

The related returns are kept separate from the Forms 3520 and 3520-A.

However, once the related return is examined, the International Examiner must request the Forms 3520 and 3520-A from the OIRSC.

The DLN for a:

Due to their potential use in classifying Forms 706NA estates of nonresidents and Form 1040NR filed by foreign trusts, copies of those Forms 926 which have indicated in the Foreign Transferee Information (Part I) that the transferee is either an Estate or Trust should be forwarded to the Director International at the following address:

Form 926, Return by a U.S. Transferor of Property to a Foreign Corporation, filed for transfers made after August 4,1997:

BMF returns with Form 926 attached will contain Audit Code 2.

IMF returns with Form 926 attached will contain Audit Code H.

Returns are sent to the Classification Department where they will be classified by an international examiner.

Forms 926 filed prior to August 4, 1997 are to be forwarded to the Ogden Campus Classification Department where the transferor files their return, after processing.

The transferors' return and Form 926 are associated prior to classification.

All Forms 926 are classified by an international examiner.

Form 8865 is an information return required to be filed to report:

Form 8865 is filed as an attachment to the taxpayers income tax return. It can be attached to any one of the following Forms:

However, consideration should be made to determine if these returns should be forwarded to the Ogden campus for classification.

Income tax treaties to which the United States is a party generally provide for the routine exchange of information relating to payments made to residents of the other country (Foreign Information Documents). These documents reflect payments of such items as:

The documents are received from approximately 15 treaty countries in numerous formats. Since 1973, the documents have been received by and stored at the Philadelphia Campus.

Foreign Information Documents showing individual taxpayers (IMF) as recipients will be processed according to Information Returns Program in the IRM.

Foreign Information Return Program (FIRP) documents, are processed by the Chief, Planning and Special Programs Section, Philadelphia Campus. They will sort the FIRP documents and forward them to the appropriate payee campuses, Attention: Department Manager, Classification.

FIRP documents received by the Chief, Planning and Special Programs Section, Philadelphia Campus, which are unusable (having incomplete taxpayer information), will be forwarded to the Director International Attn.: Chief, Tax Treaty, for return to the submitting country.

When the FIRP documents are received at the payee campuses the Classification Department Manager will "TIN perfect" those documents without TINs. See IRM 3.12.23.1.12, Unprocessable Returns. A cross reference search of the spouses TIN should also be performed.

After TIN perfection of the FIRP documents, the Department Manager, Classification, will forward the FIRP documents to the Chief, PSP, in the appropriate payee Area Office.

These documents are deemed sensitive under the Exchange of Information provisions of the various tax treaties and are not to be made available except for Federal Tax Administration purposes under any disclosure provisions.

All inquiries concerning the disclosure of this information should be addressed to the Director, Office of Disclosure, Headquarters.

Form 1040, with Form 5074 attached, is filed with the Austin Campus.

These returns are processed, coded, and delivered to Examination as prompt examination returns

Campus Classification Department will:

Classify the return.

Forms 1120S, U.S. Income Tax Return for an S Corporation:

are forwarded to Examination for technical assistance.

When received in Classification, follow the procedures set forth in the identifying Issues on Corporation Returns Section.

An unincorporated organization which qualifies under IRC Sec. 761(a) as:

may elect under IRC Sec. 761(a) to be excluded from treatment as a partnership. (See Regulation 1.761-2.)

For the first year for which it wants the exclusion, the unincorporated organization should make the election in a statement attached to the Form 1065, U.S. Partnership Return of Income.

The Returns Processing and Accounting Division suspends processing IRC Sec. 761(a) elections until a review is made by the Classification Department .

The Classification Department Manager is responsible for sending classifiers to the Returns Processing and Accounting Division to determine if IRC Sec. 761(a) elections will be accepted or rejected before processing is completed.

The Classification Department Manager is responsible for reviewing Letter 1932(C) or Letter 1932(SC), Missing information—761(a) Election, taxpayer responses.

Phone inquiries and technical responses by taxpayers on the aforementioned letters are also directed to the Operations Manager, Examinations.

Classifiers of IRC Sec. 761(a) elections should have experience in tax shelters.

Classifiers reject elections that are determined to be invalid. Valid elections are accepted as filed.

After a determination is made on an IRC Sec. 761(a) election, the Returns Processing and Accounting Division processes the returns as follows:

Returns selected for examination are forwarded to their respective Area Offices.

The Chief, PSP in the Area Offices and the Classification Department Manager in the Campuses are responsible for submitting orders for returns to be classified for their respective examination functions.

Orders initiated by both Area Office and Campus chiefs are processed by the Campus via tape/disc to Enterprise Computing Center - Martinsburg (ECC-Martinsburg).

Orders must be submitted to the Campus, Attention Classification Department Manager or designee to ensure they are received no later than Friday two cycles before the earliest processing cycle on the order form.

Campus must process order by tape/disc to ECC-Martinsburg by the Thursday prior to the MCC Posting Cycle.

The mathematical DIF formulas for individual returns with certain modifications apply to returns identified for Director, International.

Returns with APO/FPO addresses are also selected under the DIF system.

Computer reports for individual returns (1040-1, 1040-2, etc.), and corporate returns (1120-1,1120 -2, etc.), are generated for the Director, International, Area Office 15.

Individual return Post-of-Duty (POD) report 1040-1 is generated for AOs 15 by country or countries.

Return orders for these returns are submitted to the Philadelphia Campus.

Office Examination returns are classified by Tax Auditors from the Director, Area 15. These returns include:

Field Examination returns are classified by Revenue Agents from the Director, Area 15. These are primarily Forms 1120F, U.S. Income Tax Return of a Foreign Corporation.

There are instances in which the Campus cannot furnish all returns ordered by Examination because returns are missing from the block. They may be already charged to Examination or to other functions or operational units.

Upon conclusion of the initial pull and delivery by Files Management of a returns order to the Campus Examination Branch (SCEB), Files Management makes a special search for any returns missing from the order.

SCEB takes the following steps with regard to missing returns for Non Automatics:

SCEB takes the following steps with regard to missing returns for Automatics and Specials:

The inventory of individual returns for Area Offices is based on the Zip Code of the address shown on the return. California is divided into more than one Area Office. When transferring returns to this state, check http://sbse.web.irs.gov/AIMS for the AIMS listing, which is updated monthly, to determine the proper Area Office.

The inventory of corporation, partnership and fiduciary returns for an Area Office is based on the Area Office in which a return is filed and not the Area Office location indicated by the address shown on the return.

When a return is transferred, classification is not to set the scope and type of examination to be performed by the office receiving the return after the transfer. This does not apply if the return is to be classified at the Campus and the transfer Area Office is serviced by the same Campus.

When a return is to be transferred to another Area Office, prepare Form 3185 (Transfer of Returns—Transfer of Administrative File) in accordance with the AIMS handbook.

Identify all cases transferred-in from the Assistant Commissioner (International) as pre contact analysis cases.

The taxpayer may request abatement of interest due to an error or delay in the performance of a ministerial/managerial act.

The Accounts Management Operation at each campus generally receives requests for abatements of interest and determines which functional area is the source of the claimed error or delay. Accounts Management Branch will:

Accounts Management will forward claims originating in Customer Account Services (CAS) to Examination as Technical Advice requests. Examination will review and return them with a recommendation whether to allow or disallow the claims.

Interest abatement claims may also be received directly in Examination Branch, either in the processing of an Examination program, or in a prior examination reconsideration request.

The Interest Abatement Coordinator in Examination Branch Operation will follow the criteria in IRC Section 6404(e)(1) to process requests.

Interest is charged on taxes not paid by the due date of the return without regard to extensions or late filing. Refer to IRM 20.2.7, Interest Abatement, for complete procedures for receiving, processing, determining and closing requests for interest abatement.

See IRM 21.5.2.4.10.1, Adjustment Guidelines for additional information.

An AAR is an amended return with a Form 8082, Notice of Inconsistent Administrative Treatment of Amended Return (Request for Administrative Adjustment), as a Adjustment Request cover sheet. See IRM 4.31.4, Administrative Adjustment Requests, for information concerning these returns.

When Examination receives information of sufficient compliance value to warrant enforcement follow-up, concerning a return filed or to be filed by a taxpayer:

If the examination cycle for the return to which the information report pertains will expire within 180 days, there must be a firm and clearly defined issue involving substantial additional tax for the period before the Form 5346 is prepared.