Tax audits are one of the most dreaded situations that can enter your personal and professional financial life. Even though the chances of being audited are relatively low, the possibility is always there. Luckily, there are ways to keep your tax return lower on the IRS’s radar. By avoiding specific red flags that may trigger an IRS audit, you can keep your personal and business taxes out of their line of auditing.
The IRS conducts audits with the main goal of verifying your tax information. Minor mathematical errors and unintentional mistakes can trigger a red flag resulting in an audit. These small errors can cost you in terms of time and money which is why it is advisable to consult a professional accountant if you feel overwhelmed or confused.
Below are 10 IRS audit red flags that you should be aware of as you set your business up for success. As always, consulting with a tax saving professional, such as a Tax Strategist, will help keep any audit scare less intimidating.
If your income exceeds $200,000, your likelihood of being audited starts to increase. Although high earners are typically targeted the most by IRS audits, that doesn’t mean paying yourself a low salary is a safe way to prevent an audit trigger. Low salary earners with high deductions are also a trigger to the IRS. Being aware of this is an important part of keeping your taxes low on their radar.
When it comes to salary, significant changes in your income year-to-year can also trigger potential red flags. For example, if you paid yourself a larger salary last year but lowered it for this year’s filing, the IRS may view that as a red flag. Make sure to work with your tax strategist to ensure that you are paying yourself consistently without causing any significant changes to your filings.
It is critical not to over deduct your taxes as the IRS could view this as a red flag. The IRS has its own definition of norms for tax returns and if you do not fall within what they are expecting, you may be at risk for an audit. This does not mean that you should not deduct things. Any deduction that you can provide proper documentation for should be utilized. Being aware of the risk of excessive deductions in the eyes of the IRS is essential to keep in mind.
If the deductions on your tax return all end in perfect 5s or 0s, you may be setting yourself up for a red flag to the IRS. Some estimation is okay, but if you can provide an exact number on your return, your filing will be less of an alarm to the IRS. And in today’s digital world, logging exact numbers for your deductions is easier than ever.
Remember that all 1099s and W-2s you receive have already been sent to the IRS. Therefore, any failure to report this income will not only result in a bill from the IRS but is also a red flag for an audit. Make sure to disclose all income within your filings.
Foreign accounts must be reported to the IRS, especially if they have large dollar amounts or significant financial assets. You can easily report these by filing FinCEN Report 114 (FBAR) and or IRS Form 8938. If you do not notify the IRS of these accounts or assets by April 15th, you are not only risking a red flag for an audit, but you could also receive a penalty.
One of the worst ways to draw attention to your finances is to submit your tax return haphazardly. Whether you are filing late or have entered the wrong social security number on the documentation, a careless filing can result in a red flag to the IRS or worse — a rejected return. It is vital to treat your tax return with care and precision.
Another critical step is to know that the professional accountant you are using is credible and reliable. If a tax strategist has a history of being audited or accused of fraudulent behaviors, the IRS will keep a closer watch on this person’s filings.
Unfortunately, high-earning businesses can generate a lot of attention from the IRS. Cash businesses (such as restaurants and retailers) are under a closer watch from the IRS. If you own or manage a business of any kind, keep precise documentation possible to avoid scrutiny when filing your taxes, especially any cash transactions.
Withdrawing money from your retirement fund, including a 401K, will result in a penalty in addition to the taxed amount. You should file this as income with your taxes. Failure to do so could result in unwanted attention from the IRS. It is critical to disclose any withdrawals to your tax strategist to ensure that all proper tax payments and penalties have been accounted for and filed accurately.
Another red flag for the IRS is when large amounts of business meals, entertainment, or travel expenses are filed with the return. While deducting these items is typically acceptable, keep accurate and detailed documentation to back up the deductions in case of an audit.
Losses, such as a hobby or rental loss, paired with high-income earners can be a red flag to the IRS because there are very extensive guidelines to filing correctly. Whether it is a rental or hobby loss, claiming such on your tax return requires a lot of documentation and accurate reporting.
Bottom line: Being aware of what could signal a red flag to the IRS can help prevent your taxes from being audited. Working with a trustworthy tax strategist is the best way to ensure you are doing all you can to prevent an audit while also maximizing your return potential. Contact TSP Family Office at (772) 257-7888 to hear more about how we can help or check out our Tax Savings Calculator.