Back in October, the blog featured an article about the potential increase in IRS audits of tax returns for tax year 2010 (http://acuityabs.wpengine.com/irs-audits-frequency-rising/). No one wants to deal with the hassle of being audited, so as you begin the process, keep in mind these eight things that may increase your chances of being audited.
1. Abnormalities or errors
One of the most common errors made when filing tax returns is improper calculation. It is extremely important that you check and double-check your math before submitting your return because mathematical errors (especially those that are in your favor) will definitely get the attention of the IRS and may lead to a full audit.
2. Numbers that are too “clean”
In addition to mathematical mistakes, be careful not to round all of your numbers. Tax returns that are too clean will likely raise suspicion since very few real-world transactions involve rounded numbers. The IRS may think that you are guessing or rounding the numbers in your favor.
3. Claiming the Home Office Deduction
This deduction allows you to deduct a certain percentage of the costs related to the rent, purchase, maintenance, and repair of a personal residence if a portion of it is used as a home office. If you wish to claim the Home Office Deduction, you should be absolutely certain that you qualify. According to the IRS website: http://www.irs.gov/businesses/small/article/0,,id=204169,00.html, you must regularly use part of your home exclusively for business purposes (e.g., running an online business, meeting with clients, etc.). Additionally, you can take the deduction if you use a separate free-standing structure (such as a studio) to conduct business, even if it is not your principal or sole place of business. The two most important words in this section are regularly and exclusively. You cannot claim the Home Office Deduction if your child’s bedroom functions part-time as an office. If you qualify, do not hesitate to take the deduction because it can save you a significant amount of money; however, if you are audited, be prepared with documentation to prove that you qualify.
4. Self-Employed Business Expenses
Historically speaking, those who are self-employed are more likely to claim higher deductions and under-report their income on their tax returns. If you are self-employed, you are automatically more likely to be audited by the IRS, no matter how small your business may be. It is extremely important that you keep proper documentation for all of your business expenses. Deductions for meals, travel, and entertainment, especially large amounts, will most likely draw the attention of the IRS to your tax return. You should keep detailed records of all of your expenses, documenting the amount, location, and business purpose for each expenditure.
5. Large Charitable Contributions
Another aspect of your tax return that will draw attention from the IRS is if you report a large amount as charitable contributions. This area is one that is frequently abused by taxpayers, so if you claim a deduction that is significantly higher than that of taxpayers in your same income range, you will likely be subject to additional attention. Be sure you get written documentation from the charity to which you donated, including receipts for cash donations and appraisals for valuable property. Additionally, if you donate property that is worth more than $500, make sure that you file Form 8283: http://www.irs.gov/pub/irs-pdf/f8283.pdf.
6. Employment in a Cash-Intensive Industry
If your income comes from a business or industry in which you primarily receive cash payments, the IRS is automatically more likely to audit your return. Once again, historical evidence shows that those employed in such industries are less likely to report all of their taxable income, meaning that if you are a taxi driver, bartender, hair stylist, restaurant server, etc., you should be prepared to prove that you have accurately reported your income.
7. Not Reporting a Foreign Bank Account
Although this segment will probably not apply to the majority of taxpayers, those to whom it does apply should pay close attention. Failing to report a foreign bank account or reporting it inaccurately on your tax return can result in harsh penalties, even if the account produces no taxable income. Additionally, if you are reporting a foreign account for the first time in 2010, the IRS may wish to examine your return closer. Once again, just be sure to keep proper documentation in case of audit.
8. Failure to Report All Taxable Income
Finally, but most importantly, you absolutely must report all required income on your tax return. The IRS uses a computer system that can easily pick up on discrepancies between your 1099s, W-2s, and your tax return. If you notice an error on a 1099 or W-2 issued to you, be sure that you get your employer to send a corrected form to the IRS. And going back to the first point, be sure to check your math before submitting your return.
In the end, there is no guaranteed way to avoid an audit from the IRS. In addition to the eight points listed above, the number of random audits is also increasing for tax year 2010. The specifics of what causes the IRS computers to recommend an audit have not been publicly released, so the best thing to do is just to be prepared for the possibility. Prepare your return carefully and keep proper documentation of everything.
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