It is time to prepare your 2016 income tax return, account for your income, and pay up. It would be nice if it were that simple, but it isn’t. Filing your return and paying the amount of tax due may not be the end of it. To keep taxpayers honest, the Internal Revenue Service (IRS) pulls a small percentage (less than 1%) of returns for audit.
Even if you are completely honest and forthcoming about income and deductions when you file your tax return, you do not want to be audited if you can help it; audits take your time, can cost you money if you need to hire representation, and are stressful.
According to the Internal Revenue Service, returns are not selected for audit at random; something about the return triggers an audit. Try to avoid the following audit red flags when filing your return.
Rounded numbers: When the numbers you enter end in zeros, the IRS suspects you are not using actual figures. Occasionally, you make have an actual number that ends in zeros. One such number will not likely flag your return, but a lot of rounded numbers will.
Unreported income: Any income you fail to report that has been reported to the Internal Revenue Service by a third party (1099 and W-2 income) automatically flags your return.
Sloppy or incomplete information: A tax return with math errors or that is incomplete will trigger a red flag. The IRS advises the use of tax preparation software to avoid this red flag.
Charitable donations: This deduction is often abused, so if you claim charitable donations in excess of the average for your income bracket, your return will be flagged.
Earnings of $100,000 or more: People with high incomes make it easy for the Internal Revenue Service to justify the expense of an audit. Consequently, those with incomes over $100,000 are 500 times more likely to be audited than those who earn less than that amount. You cannot avoid this red flag if you make over $100,000, so be sure to obtain and retain good documentation for any deductions or credits you claim.
Low income for your profession: The IRS has data on the average income in your locale for people in your particular profession. If you report income significantly lower than what the IRS would expect for someone in your profession, your return may be flagged to verify income.
Differences in Federal and State tax returns: When information on your Federal income tax return does not match the information you report on your State income tax return, red flags are triggered at both the Internal Revenue Service and your state revenue department. The IRS recommends using tax preparation software for your Federal and State returns to avoid this red flag.
Large swings in income: The Internal Revenue Service likes consistency. Consequently, large swings in income that cannot be explained by W-2 or 1099 reporting will cause your tax return to be flagged.
Tax avoidance transactions: If the Internal Revenue Service discovers you have participated in tax avoidance transactions or if they suspect that you have, your return will be flagged for an audit.
There is no way to absolutely avoid an audit of your federal income tax return. Nevertheless, the odds are in your favor that you will not be audited. You can improve those odds by avoiding audit red flags where you can and using tax preparation software to complete your return.
Part 2 of IRS Audit Red Flags will address business returns.
K. C. Knouse is the author of True Prosperity: Your Guide to a Cash-Based Lifestyle, Double-Dome Publications, 224 pages