Had a great year last year and suddenly enjoyed a surge in income? You could have a target on your back for an IRS audit. While getting audited is no fun, you can survive if it happens to you!
The key to remember is you need to have solid documentation to back up any claims you make about your overall financial picture, particularly your deductions.
These red flags will attract increased IRS audit attention
Are you doing your own taxes? Kiplinger’s Personal Finance magazine has put together a list of things that will get you flagged by the IRS this tax season.
1. You claim a home office deduction
You need to have a dedicated space in your home that is only used for business to take advantage of this deduction. Doing so lets you prorate some household expenses such as utility bills, homeowner’s association fees and more on a fractional basis.
When you claim this deduction, you have to figure out exactly how much square footage is dedicated to your business in your home vs. how much square footage you have in your home at large. Of course, this area is also ripe for abuse! You’ll need to be able to prove the area you’re claiming is separate and exclusive for business use.
2. You give a lot of money to charity
The IRS knows what others who make similar income to you tend to give, and they will question you if you’re claiming too much.
Again, the key is to have accurate and complete documentation to prove you’ve made the donation and to prove the value of the donation if it’s non-monetary.
In general, one of the least scrutinized ways to make a donation is with good old-fashioned pen and paper. As USA TODAY notes, “Gifts by check are hard to falsify.”
3. You deduct unreimbursed business expenses
Unreimbursed business expenses are only deductible beyond 2% of your adjusted gross income, and most workers already get reimbursed by their employers for such out-of-pocket expenses.
But if you don’t get that reimbursement, things like dues, license fees, subscriptions to trade journals, tools and supplies and specialty uniforms are all legitimately deductible.
The gray area here is when you get into deductions for non-allowables like commuting costs and everyday work clothes. Again, the IRS knows what is outside normal bounds based on your income and will question you if you’re too far out of the norm.
4. You use digital currencies
The IRS will target those with incomes above $200,000. You have a 1 in 37 chance of being audited.
5. Not reporting taxable income
You must report all 1099s and W-2s, even if you believe them to be incorrect. (Deal with the discrepancies after filing.)
6. Claiming day-trading losses on Schedule C
If you know anything about money expert Clark Howard, you know he invests for the long haul — not for short-term gain! Check out his investment guide here.
7. Claiming rental losses
Being a landlord is tough, but it’s definitely one route to building long-term wealth. Becoming a landlord starts with finding the right tenant. That way you’re less likely to incur rental losses in the first place!
8. Deducting business meals, travel and entertainment
If you’re in business for yourself, you’ve got to see our Business & Entrepreneurs section!
9. Claiming 100% business use of a vehicle
Be careful, salespeople! To counter any possible IRS questions, consider keeping a paper log on the dashboard and writing down every mile for work, the date and what it was for. If you do want to claim all the cost for a business expense, be sure you have another vehicle too.
10. Hiring a preparer who falsifies your return — without your knowledge
Incompetent or unethical tax preparers can cost you big time. Should the IRS see a pattern of problems on returns coming from one preparer, they may flag the entire operation’s returns for that year or the past several years.
If an egregious error is discovered, it’s likely to be on you — not the tax preparer.
From personal experience, I can tell you my former tax preparer — a person referred to me by a friend when I moved from one state to another — padded my Schedule A with un-reimbursed employee expenses for uniforms. The only problem is I don’t wear uniforms for work.
Well, the IRS did a wholesale audit of the preparer’s operation and I had to pay thousands back to the IRS with interest and fees. Don’t make the same mistake I did. Thoroughly vet your tax preparer before hiring them.
11. Writing off a loss for a hobby
Businesses are meant to be profitable. If you report losses for at least three of the past five years, your “business” is more likely to be viewed as a hobby by the IRS. And you’ll be in hot water because the IRS disallows any business deductions for hobbies that you may try to claim on your Schedule C.
12. Filing a Form 5213
This one’s likely to attract scrutiny, though not immediately.
Form 5213 basically tells the IRS not to audit you for the first five years of your business. The most common scenario where it’s used is when someone is trying to transition their hobby into a legitimate business.
But once that five-year window is up, the spotlight is going to be on you with renewed intensity.
13.Committing basic math errors on your return
Maybe you weren’t great at math in school. Nobody’s here to judge you! But the reality is that basic math errors in adding and subtracting will raise suspicions about what else could be wrong on your return.
The solution is simple: Use tax software and leave the math up to machine intelligence. The IRS Free File program offers free tax prep for people with incomes below $66,000.
Make more than $66,000? No problem! Credit Karma offers truly free tax filing in 2018 with no income limits.
Here are four additional areas that may trip you up with the IRS, too!
14. Taking an alimony deduction
15. Running a business where almost all money is in cash
16. Not reporting a foreign bank account
17. Engaging in currency transactions