How to Avoid an IRS Audit

Posted on 09. Jan, 2006 by in Taxes

Since the clock has started counting down the days until April 15, I thought a post about how to avoid an audit in April might be appropriate. While there is no foolproof way to avoid the dreaded IRS audit, there are a number of things that you can proactively avoid in order to become less likely to be picked up by the IRS’s audit radar. I’ve compiled this list of the past several weeks and although it is not exhaustive or all-inclusive, it contains the top suggestions for avoiding an IRS audit.

  1. Itemized Deductions – The IRS maintains a range of “normal” deductions for each tax bracket based on the average claim taken. So if you are earning $55,000 a year and deduct half of that for mortgage interest – but the average for your tax bracket is around $4,000 – the taxman may come calling. If you have legitimate claims, however, be sure to include them – just keep your receipts.
  2. Hobby Losses – If your small side business is consistently losing money the IRS could target your little pet project as a hobby – and hobby losses are not deductible. The IRS states, “A hobby is an activity for which you do not expect to make a profit. If you do not carry on your business or investment activity to make a profit, there is a limit on the deductions you can take.” For more information on hobby losses and what constitutes a hobby, check out the IRS website.
  3. Home Office Deductions – Unless you are 110% sure that your home office qualifies for this deduction – it’s simply not worth it so stay far, far away. Again, check out the IRS website to read more on home office deductions.
  4. Casualty Losses – The rules surrounding casualty losses are very specific. First, losses must exceed any insurance reimbursement by $100. Even then, that first $100 is not deductible. Next, your loss must be attributed to a sudden event such as theft, fire, or other disaster. Losses that result from a gradual wearing down of conditions — erosion for example — do not qualify.
  5. High Income – Not only are your taxes higher, you are chances of being audited are 1 in 20 if you earn $100,000 or more. Because the IRS is a business itself, high income earners are great sources of income that the IRS does not want to let get away. If I’m earning $10k a year and pay a total of $100 of taxes each year, my chances are very slim that the IRS would invest the money and resources into collecting the $5 I didn’t pay. For those in this situation, earning less money really isn’t an option, but high earners should be aware that Big Brother is watching closely.
  6. Earned Income Credit – While wealthier tax payers are more likely to be scrutinized, but low-income tax payers could be looked at a second time if the earned income credit calculations were not done correctly. Because this complicated tax provision is a potential red flag – be sure to either go over your return and this calculation carefully, or enlist the help of a professional, or even your local VITA office.
  7. Provide Correct Social Security Numbers – It may seem simple, but using the wrong social security number can lead the IRS to look at your return more closely.
  8. Unreported Income – The IRS compares the income you’ve reported on your return to the total of all 1099 and W-2 income you’re employers have reported througout the year. If these numbers don’t match up, then you’ve triggered a red flag. Similarly, jobs that involve cash-only transactions such as tips for waitresses or taxi drivers are prime audit targets. To

    protect yourself be sure to keep accurate daily records of your tips. IRS publication 1244, Employee’s Daily Record of Tips and Report to Employer, available here, includes a worksheet for recording daily tips.

  9. Divorce, Dependents, and Alimony – Oh My! – If you’re divorced, the IRS allows only one parent – usually the one living with the child – to claim the child as a dependent. Otherwise, you need a tax waiver signed by the custodial parent to take the write-off. You should also be aware that the IRS matches tax deductions for alimony payments by one former spouse with the taxable income reported by the other.

Taxes, IRS, Audit, Alimony, Earned Income Credit, Hobby Loss, Itemized Deduction

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