Avoiding an IRS Audit
On average, the Internal Revenue Service audits a little over a million tax returns every year. That’s less than one percent of all returns. That’s a really small number in the grand scheme of things. No one likes to be audited though, so here are a few tips to help avoid the hassle.
The numbers are on your side
The numbers are on your side to not be audited. Less than one percent (0.5 percent) of people who file taxes are audited every year. That number jumps to 12 percent if you make more than $1 million a year. Overall, more than 30 percent of audits are for those making over $200,000. Comparatively, only two percent of the American population makes that much. With these numbers, the chances of being audited are low.
However, the IRS is stepping up efforts to ensure all Americans are paying their fair share of taxes, meaning audits are becoming more common. There are steps you can take to reduce your chances of being audited, and step one is educating yourself on your claims and deductions.
What causes an audit
The IRS has an automated system called the “discriminant function system” (DIF). The DIF uses statistical algorithms to determine returns that could have inaccuracies or discrepancies in reported tax liability. The DIF was designed to look for anomalies between the taxes owed and the tax liability reported. Make no mistake: the DIF was designed to bring in revenue. To avoid being flagged by the DIF, be honest. Report all your income, don’t take deductions you’re not owed, and you should be fine. Most importantly, double check your work.
Dot your “i”s and cross your “t”s
Missing or wrong information is another reason people get audited. Error rates for paper tax returns are somewhere in the 10 to 21 percent range. This is a good reason to e-file or use tax software, such as TurboTax. Besides helping avoid audits, electronic tax returns are processed faster, meaning you get your return faster. There is also instant confirmation that you filed your taxes along with electronic records in case you are audited. Oh, and filing online is cheaper. Not all tax returns can be filed online, so be sure to check your eligibility before you do, as that would most definitely result in an audit.
Some critics say that e-filing taxes only serves to make it easier for the IRS to conduct audits since the information is much more easily reviewed and can be instantly transferred to the DIF. What’s easier for you is going to be easier for the IRS, but remember, they aren’t going to audit you unless you give them a reason to do so.
Avoid red flags
There are a few tax credits or deductions that tend to catch the eye of the IRS. It should be no surprise offshore accounts and foreign income are giant red flags. It isn’t illegal to have these, however a lot of people trying to avoid taxes have them too. Large deductions like charitable contributions or large mortgage interest deductions, especially when compared to income, are going to catch the auditor’s eye. Home office or 100 percent business use of a vehicle are also common triggers for an audit. If these are legitimate deductions, go ahead and make them. However, be sure to have all your paperwork in order in case you are picked for an audit.
Not all audits end with owing more money or fines. Almost 34,000, about three percent, of audits result in the taxpayer receiving an additional refund. So take heart, if you are selected for an audit, you’re more likely to get money back than you were to be picked for an audit in the first place.