Hearing the word “audit” can give anyone a sinking feeling in their stomach, but luckily, audits are not as often as you may think. In 2019, the IRS audited 1 out of every 220 taxpayers, which was 0.45% of the total individual tax returns of the fiscal year.1 While more than half of those returns were filed by Americans whose income was over $1 million, it can still be useful to know of common IRS audit triggers to avoid getting flagged by the federal agency – especially as an entrepreneur.
1. Earning a High Income
As previously stated, fewer than 1% of taxpayers are audited and over half of them earn an annual income of over a million dollars. So, if you earn less than a million every year, the odds are in your favor of not being audited by the IRS.
2. File Returns with Math Errors or Typos
The IRS has computer systems in place to calculate the math on tax returns, making math errors on returns is another common audit trigger you should avoid. It can notify the IRS if the addition or subtraction on your return is incorrect and can be prompted for further review. Double-check your social security numbers and your math so you won’t have to go up against the IRS.
3. Unreported or Filed Incomplete Returns
It does not matter if a business shows major loss or profit, they must file tax returns. Failing to report your W-4s, 1099-MISCs, or 1040s can have you answering to the IRS – the same goes for any discrepancies. Even something as small as missing a signature can alert the IRS to audit you.
4. Filing a Schedule C
Business owners are required to report business income as their tax return by filing a Schedule C. This IRS form will calculate the profit or loss of your company, but it can also land you in hot water with the IRS, which is why it is important to keep proper documentation to back up your returns.
5. You Run a “Cash” Business
Under the Bank Secrecy Act (BSA), financial institutions must report to the IRS and other federal agencies large cash transactions exceeding $10,000 (daily aggregate amount).2 It is put in place to impede illegal activities such as money laundering or tax evasion. Therefore, if you run a cash-dependent business – like a convenience store, restaurant, laundromat, beauty salon, etc. – you are more likely to be audited.
6. Home Office Deduction
Many taxpayers abuse home office deductions, so there are specific guidelines you must meet to prevent from being audited. For instance, if you regularly work in an area of your home meant exclusively for your business, you can deduct the cost of that space from your tax returns. Use IRS Publication 597 to help you evaluate whether or not you can claim a deduction for your home office.
7. Using Your Car for Business
Since the IRS knows this is another deduction taxpayers tend to take advantage of, the tax agency will take a closer look at your returns if you do so. Yes, small business owners have the right to claim business-related auto expenses on their return, but just like filing a schedule C, it is important to keep records of mileage and dates as claiming this deduction increases your chances of being audited.
8. Business Travel, Meals, and Entertainment Expenses
Another common IRS audit trigger is claiming deductions on business travel, meals, and entertainment without providing credible business purposes. When deducting such expenses, it is important to provide not only the receipts but also a record of the persons in the attendance and the business purpose for each expense.
9. Too Many Deductions
This one is quite obvious since it looks like you are nickel-and-diming Uncle Sam, but many taxpayers still try to get away with it! The IRS compares your itemized deductions to the average deductions claimed by taxpayers who are in the same bracket as you. If your total deductions exceed the average, it may place you under further scrutiny.
10. Major Changes in Income or Expenses
If your business’ profit increased by 30%, for example, between last year and this year, the IRS will want to find out the reason. There is nothing wrong with making more money, however, just like the aforementioned triggers, you would want to keep records on hand of the major increase in case you will need to answer to the IRS.
What to Do If Audited
On the rare occasion that you receive an “invite” from the IRS to explain your latest returns, remember to breathe. Audits are not only rare, but they are also random, so you may not have to do more than just give a thorough explanation to the IRS. Upon receiving a letter from the IRS, our tax professionals highly recommend responding promptly while maintaining a professional tone.
Next, you will need to contact a tax lawyer at GetATaxLawyer.com, particularly when there is a large amount of money involved. Upon hiring our audit representation service, your tax attorney will go over the necessary documentation you need to prove the numbers on your return. The audit procedure primarily takes place via mail, so you will not be required to visit your nearest IRS office unless summoned. Communicating with the IRS will be primarily your attorney’s job, which is to ensure you walk away as unscathed as possible from the situation.
Dealing with the IRS or State can be terrifying, but with our team of tax lawyers at your side, the process can go by smoothly while hardly incurring any penalties. We have decades of experience fighting the IRS to ensure we get the best possible results for our clients, which is what you deserve when spending your hard-earned dollars. Contact our team today by calling 1-800-290-8160 for your FREE consultation.
- CNBC – Attention taxpayers: Your chances of getting audited have fallen significantly
- Office of the Comptroller of the Currency – Bank Secrecy Act (BSA)