Top IRS Audit Flags in 2016

Taxes themselves are a hassle. But even worse is the prospect of an audit after you’ve filed. So knowing what increases and decreases the probability of an audit is something we’ve made our business. Here are the top audit flags we’re anticipating for 2016 returns.

1. Filing a Paper Return – Yup, it’s that simple eFiled returns are audited less than Paper returns. The reason – math errors and illegible handwriting. If the math is wrong, or the information is illegible then it goes to the “inspect me” pile. Tax authorities estimate this increases your chance of an audit by 41 TIMES!
2. Claiming a home-office deduction – Allowed by the tax code, but the IRS believes it’s regularly abused. IRS internal review systems automatically flag any personal return making this claim. A far better approach is to get the same benefit (and usually much more) on a separate business return.
3. Claiming the Earned Income Tax Credit (EITC) – Congress enacted this tax credit to benefit low-income taxpayers. But the IRS estimates that as many as 26% of EITC claims are fraudulent and will be delaying refunds on any returns making the EITC claim in order to perform further reviews on these specific returns. In 2016 there are also new mandatory due-diligence requirements for preparers and we’re expecting a substantial increase in audits due to EITC.
4. Income over $200,000 – IRS Auditors are paid on commission (surprise!) so they stand to benefit more by auditing large returns. And we see them try harder when the numbers are bigger – they have more to gain. So if your income is above $200,000 it is worth doing some serious tax planning to try and reduce the income on your personal return without diluting the actual wealth you have at your disposal.
5. Using a Schedule C – Just by having a Schedule C, no matter what you put on it, your changes of audit increase 10X. If you have business activities at all, it is more than worth it to consider a separate business return so you don’t fall prey to the Schedule C Scrutiny.
6. Claiming Business Expenses – Business expenses can be claimed on a personal return in many ways (Schedule A, Schedule C, Schedule E, etc.) but ALL these claims raise audit flags. If you have business expenses, incorporate and report the expenses on a business return.
7. High Charitable Contributions – If your charitable contributions are high compared to your income, your changes of an audit increase. Don’t be afraid to make these claims if you have proper documentation and they’re a great (GREAT) way of doing some tax planning and being philanthropic. But make sure you have the right documentation and consider providing an explanation if the figures are unusually high. We’ve never lost an audit on the charitable contribution front but the idea is to avoid the audit in the first place.
8. Missed Income – If you received dividends, sold stock, or received independent contractor (1099) income, make sure it’s accounted for on your return. This information is reported to the IRS every year. So if you don’t account for it on your return, it will (WILL) trigger an audit. Depending on the type of information, it may make sense to officially report it elsewhere (like on a business return) but it needs to be accounted for on your personal return.
9. Round Numbers – Seems like a “no brainer” when you think about your own perception if you saw a list of numbers for business expenses and they were all rounded to the 1,000’s. The IRS assumes the worst from individual taxpayers and their systems work the same way – if the numbers look too perfect, the IRS assumes the taxpayer is hiding something. So keep accurate records, but if the figures look to perfect, be careful.

Keep in mind that being audited doesn’t automatically mean you’ll lose the audit – we see good results in a large majority of the audits we handle. It just means you’ll have to deal with the time and expense of being audited. By paying attention to the items above (and several others) you can reduce your chance of being audited.

If you are interested in having our office prepare your 2016 tax returns or are facing an audit, we’d be happy to assist! We offer free in-house or phone consultations. A member of our friendly staff can help you get started. Call (480) 888-7111 or click here to schedule your free consultation today.