TAX RETURNS: Why am I being audited?

Why am I being audited?

So you open the mail and there it is, a letter from the IRS. Your first question is: WHY? How does the IRS decide who to audit and who not to? In some ways it’s a pretty simple question to answer but first you have to understand how the IRS looks at taxpayers.

Taxpayers – competent or incompetent?

Look around your neighborhood. Better yet, to go the Mall or the Airport and you see the diversity of people…everyone’s different. But through the eyes of the IRS, every person’s the same. To the IRS, there are no PhD’s or simpleton’s, no doctors or plumbers, not even male or female. Everyone’s just an individual taxpayer. And even more to the point, the IRS system is designed to accommodate the simplest among us. That means assuming everyone reads at a 4th grade level and can barely handle simple math problems. (That’s why there are tax tables as well as formulas…so we can pick the number based on age and income instead of having to calculate it.) From the IRS standpoint, it’s highly unlikely that a taxpayer will report their income and expenses properly on a tax return. From their standpoint, we’re all basically incompetent. That’s why the IRS checks your return, but that brings up another important question: How do they check it?

How does the IRS verify data?

Some of the information reported to you at tax time, your wages (on a W-2), your mortgage (on a 1098), your interest (on a 1099-INT) is sent to you on a tax form of some kind. And the same information is sent to the IRS. So it’s easy for them to check what you said on your return against this to verify it’s accurate. But it’s the information they can’t verify that’s the problem. What about the expenses you list on your Schedule A for charitable deductions – you just list them there and the IRS has no way of checking to see if they’re right. Even worse, the expenses you list on your Schedule C for business expenses, the use of your automobile or home for business purposes, the expenses related to your rental property. The list is LONG of items that can’t be directly verified. That’s where the audit comes in. If something looks like it might be outside the standard ranges the IRS uses to determine what’s “typical” or if there are more than one or two “suspect” entries then the audit letter is likely to come.

How to avoid it.

So avoiding an audit is simple. The only information that goes on your personal return is information that the IRS already has. Be aware of the standards and make sure any amounts you reflect fit within these or be prepared to verify them to the IRS later. Use a business to GREATLY simplify your return, don’t use Schedule C or Schedule E if you can avoid it. Get the benefit of these and other expenses on your business return if you have one. If you’re not sure, ask a professional. Above all, get it right before you submit it and don’t hesitate to amend if you think there’s something that would be better reflected differently.

Audits are a hassle no matter how it turns out but they’re easy to avoid before they’re initiated. By understanding the IRS’s view and how to address it, audits can be something you hear about from your friends instead of something that creates nightmares for you personally.

Evan A. Nielsen, Esq.
Licensed in California