Best Ways to Avoid an IRS Audit
We recently published a blog wherein we cleared up some commonly held misconceptions regarding IRS audits. Here we are going to lay out some general rules of thumb and tips you can follow to help you avoid being audited by the IRS. Before you begin to panic you can rest easy as less than 1% of the population actually gets audited. Furthermore, there are certain precautions you can take to help lower your odds of facing an IRS audit and the stress that often comes with it.
Report All Your Income
First and foremost, this one is paramount and though it seems like common sense, believe it or not it often gets people into trouble. How you ask? Well, people do not realize that when they are being asked to report all of their income they need to report all of their income. This includes, but is not limited to: any freelance work you may have completed on the side; any income you may have collected from your investments (e.g. stock dividends, bond interest payments, interest payments from the bank); gambling winnings; rental income; etc., etc. Basically if you received money, it must be reported. End of story. It is not enough to simply report what you earned from your full (or part-time) job and call it a day. If you do have income coming in from a variety of sources, be on the lookout for 1099 forms in the mail (or email if you have signed up to receive them electronically). These forms match the information that the entities issuing them report to the IRS; and so it goes without saying that it is imperative that your tax returns also match what the Internal Revenue Service will be seeing if you would like to stay off their naughty (audit) list.
Keep Impeccable Records
If you are claiming any deductions, make sure that if called upon, you will be able to substantiate anything you claim as a deduction on your returns. Bear in mind that anything outlandish or even just slightly suspicious is likely to set off alarm bells with the IRS; so only claim what you can prove with proper documentation.
You may be wondering what we mean by “suspicious.” Well, for instance, figures that are too high or too perfectly rounded are bound to look fishy – e.g. writing off exactly $500 for gas mileage and an exact $500 business write off. Speaking of, when it comes to your vehicle, if you use it for business be sure to consistently log your miles so that when it comes time to file your returns, the number is an accurate reflection of how many miles were traveled in the pursuit of your work.
In the same way, if you are self-employed there are certain expenses (e.g. office equipment, electricity, internet service, etc) that you can get written off against your freelance income, but only if they are well-substantiated and accurate; so be sure to keep records and retain any and all credit card statements, bills and receipts for any transactions involving these expenses.
Don’t Over-Exaggerate Your Charitable Donations
This one may seem like an (ethical) no-brainer but it is something that comes up quite often. If you have donated a large percentage of your income and have the records to back it up (always ask for receipts!), then you should of course claim those deductions. On the other hand, if you’re claiming to have donated a huge portion of your income but can’t substantiate it, the IRS is sure to have questions. For instance, for someone making only $30,000 a year, it is not feasible that they donated $10,000 of their meager income to charity.
Additionally, if you decide you would rather donate goods such as old clothing, household items or toys for instance as opposed to donating money, you will be required to file Form 8283 if the combined value of your donated items amasses more than $500. Neglecting to do this could land you on the IRS audit list.
File Your Taxes Electronically
Besides being the far more convenient choice and, not to mention, the most efficient one, electronic filing as it turns out, appears to be the far safer option. The IRS reports that the error rate for those who file their returns electronically report an error rate of a mere 0.5%; an infinitesimal amount when you compare it to the staggering 21% error rate found among those who file paper tax returns.
Don’t Fear The Audit Man (or Woman)
Sometimes, however, despite your best efforts you may still find that your number has been called up. Somehow you have drawn the short straw and you find an audit notice in the mail even though you have followed the straight and narrow and done everything by the book. There is no need to panic. Similar to random security checks at the airport or checkpoints on a stretch of highway, there are also random selections throughout the audit process and it may very well be that you were the lucky chosen one that Uncle Sam decided to look into just a little bit further. If you were honest and diligent on your returns, you have nothing to worry about.
As we stated in our last blog concerning tax audits, all that you need to do is submit additional documentation to the IRS in support of your tax return, and if you did a good job of keeping good records in the first place, the whole audit process – from start to finish – should be a cakewalk….and when it is all over you should treat yourself; and since someone already brought it up (it was us….we brought it up) cake is always a good choice!!!
Audits Could Lead to More Money?
We saved the best news for the very end because good news is always better when it is delivered this way, and also (mostly) to reward those of you who stuck with us this until the end. We appreciate your dedication, loyalty, and/or whatever other reason(s) you may have had for wanting to read everything we have had to say about tax audits in this blog entry. We appreciate you. And here it goes…
There is always the possibility that a tax audit will work out in your favor. I will repeat that in bold lettering for those of you who may think that you read that wrong. There is always the possibility that a tax audit will work out in your favor. Yes. It is true. If you still think your eyes are playing tricks on you then go back and re-read those statements again while I go on to explain this concept.
A prime example of an audit working out in the taxpayer’s favor would be if, for instance, Mr. or Ms. American Tax Filer initially overpaid their taxes for whatever reason and were owed a refund. Though many pessimists would like to believe differently, Uncle Sam is actually quite the stand-up guy and will not keep what does not belong to him, and thanks to a tax audit, the hard-working taxpayer may get back what is rightfully his/hers. In fact, back in 2014, the IRS issued refunds to over 38,000 filers who initially overpaid their taxes. This may not have happened without the “painfully dreadful” tax audit process.
Another way an audit may work in your favor is if you hired someone to represent you for the audit. Ideally you should never retain the same person who filed your taxes as it would create a conflict of interest of sorts. Furthermore, your new representation (preferably a tax attorney as they are the most well-versed in tax law) may even be able to find errors, loopholes or possible amendments on your original return that could wind up resulting in you earning a tax refund that the original filer may not have been aware of. This is not the same as the example we have mentioned just prior to his wherein the IRS issued a refund to those 38K individuals. This situation is one that happens every single day n the world of tax audits (both federal and state) and is something that quite frankly, would not be possible without the help of someone as educated in the extremely complex field of the U.S. tax code as is a tax attorney as they have the highest level of expertise in these matters and the proceedings that come with it.
So before working yourself into a tizzy at the sight of an audit notice, just remember that not only does it not have to spell disaster, but if you play your cards right, and with a dash of luck, you may even emerge a victor of sorts.