With the April 15th income tax filing deadline just around the corner, I know many of you are busy gathering relevant information to file your tax return. The last thing you want is do something that flags your return by the Internal Revenue Service. Here is a list of the five most common errors that may trigger an IRS audit:
- Math errors. The IRS tax review system is fully automated so if you make a math error, it will automatically flag your return and send you a computer generated letter at the very least. Be aware that some numbers from one section of your return will flow over to another section of your return. Be sure to follow the math all the way through your tax return.
- Failure to report all interest, dividends and earned income. If you have multiple bank and investment accounts, it’s easy to misplace one and fail to include it on your return. Financial institutions automatically send this information to the IRS and then the IRS’ computer is ‘looking’ for a matching report on your return. If it doesn’t get a match 100% of the time, your return will be flagged. If you’re self-employed for any part of your income, even if you’re often paid in cash, all of it must be reported on your return. You should assume that anyone who has hired you, even for a one-time project, will file a wages paid report to the IRS.
- You talk too much. I’ve heard an awful lot of folks brag about how they’re beating the IRS by under-reporting income, deducting expenses that are not truly business related or are otherwise cheating the government. Some have even done so on the social media such as face book. To combat this, the IRS instituted a very effective whistle-blower program whereby they pay the whistle-blower a percentage of taxes recovered. The IRS has also successfully used computer search software to scroll the various social media for key words that might suggest someone is cheating the IRS.
- You choose the wrong preparer. You want your tax preparer to take advantage of every legitimate deduction you qualify for but some preparers are so aggressive that they have a reputation with the IRS as attracting clients who are tax cheaters. Let’s face it…not everything in the tax law is perfectly black and white. In fact there are many shades of grey. If you’re using one of these preparers and you’re being very aggressive on your tax return, you’re more likely to have the IRS choose to look more closely at your return. Understand that the IRS uses a system that automatically compares the magnitude of your deductions with other returns showing a similar income level. If your numbers are out of whack with the averages, you’ll likely get flagged.
- You’re in a high-target business. Through experience, the IRS knows that certain types of businesses are likely to reap more tax revenue (and penalties!) on audit. For example, realtors are often sole proprietors with lots of potentially ‘grey’ deductions. They often use their home as a home office; their car is their ‘traveling office’; their lunches and entertainment are often of a business nature; and many great salespeople come up short on record-keeping. If you fall into a similar business category, you’ll want to be particularly vigilant about your record-keeping. Your home office needs to be used for nothing else; you should keep a mileage log for your business miles; keep detailed records of lunches and entertainment including who you met with, why you met, and what business was discussed. Be prepared to defend your deductions with excellent records.
My experience is that excellent record-keeping is your best defense against an audit. If you do get audited, easy to access records will speed up the audit and assuming you survive relatively unscathed, your chances of a repeat audit in the near future go way down. Having said that, the IRS performs a certain number of purely random audits each year so it pays to be lucky!