Truax Tip: 6 Ways to Help Avoid Getting Audited
Even the very thought of getting audited by the Internal Revenue Service (IRS) is enough to make most people shudder in fear. However, the reality is that only some returns get audited, and usually there's some aspect of the return which triggers the audit.
For most of our clients an audit is typically a non-issue, providing you have the right documentation to back up your figures. This is why organizing and holding on to relevant records and statements is so important, as we pointed out in our previous article, Taking Care of Business! Record Keeping for Small Businesses.
While some audits are random, there are some red flags that are more likely to trigger an audit, especially for small business owners and sole proprietors. Of course, there’s no way to absolutely guarantee you won’t get selected, but here are a few tips to help keep your tax return off the government’s radar.
Double Check Your Work
We all make mistakes. But unfortunately, the IRS doesn’t accept “OOPS!” as an excuse when it comes to your tax return. Your numbers have to add up! Make sure you didn’t leave off a zero, forget to carry the one or transpose numbers on accident. The IRS has sophisticated programs that check calculations on tax returns so if your math is a little shaky, using good tax preparation software or even better, a tax preparer can help you avoid costly errors. Don’t forget about spelling and social security numbers, too!
Report Every Penny
Some people don’t realize the IRS receives copies of your W-2s and 1099s each year. Their systems automatically compare this data to amounts reported on your tax return so if you don’t include everything, they’ll know! We’ve seen this more frequently over the last several years as people take on extra jobs outside of work, or “side hustles”, to supplement their incomes. Any earnings from these jobs are required to be reported to the IRS so trying to hide extra cash may cost you in the long run. Always double check your earnings to make sure they’re accurate and report everything to avoid getting flagged.
Don’t “Fudge” Your Numbers
The IRS offers a number of tax deductions, mainly for businesses and sole proprietors, that can help reduce your taxable income. Some of these are standard amounts or percentages determined by the IRS, while others can be listed as “itemized deductions” on your return. To be eligible for a deduction, a purchase must be considered A) ordinary and B) necessary to your business (the definition of “necessary” in this case includes things which are helpful). So, a professional woodworker can claim saw blades and sandpaper because these items meet both conditions. They can also deduct the cost of marketing or advertising as efforts to increase business. However, a dentist who builds bird houses in their garage for fun couldn’t deduct those same supplies.
The IRS keeps a record of average total deductions for any given item claimed by other taxpayers who are in the same income range as you. If your deductions appear to exceed these averages, you’re putting yourself at a higher risk of getting audited. So, just make sure any deductions you’re claiming were necessary for your business and that you have the proper documentation in case the IRS wants to take a closer look.
Make Sure Your “Home Office” is Actually an Office
The IRS narrowly defines the home office deduction as reserved for people who use part of their home “exclusively and regularly for your trade or business.” That means a home office can qualify if you use it for work and only for work. Taking a business-related call in your family room or checking work email in bed every night DOES NOT qualify these rooms as a deductible office space. The space must be dedicated to business-related activities and be used for that purpose all the time. In addition, furnishings and supplies purchased for a home office must be considered legitimate and necessary. Is that 60” flat screen TV you just bought really for your business??? Umm… probably not.
Avoid Claiming 100% of Your Vehicle for Business Use
The IRS knows darn well that it’s rare for someone to use a vehicle they own for business purposes 100% of the time. And we’re not talking about fleet vehicles like cargo vans or specialized work trucks. If you’re picking up a package or visiting clients in a Tesla, it’s highly unlikely you’re not running a few personal errands on the way home! Claiming that a vehicle in your name is used for business 100% of the time will most certainly raise an eyebrow at the IRS. Always be realistic about how much your use a vehicle for work and keep incredibly detailed records for things like mileage, enhancements and repairs. The IRS requires records of business vehicle use to be kept at the time the vehicle use occurs. This used to be a pain when everything had to be written down using pen and paper. Fortunately, there are now some really good phone apps that make tracking your business and personal mileage a breeze.
Limit Charitable Deductions to Those You Can Prove
Giving money or goods to a worthy cause can be incredibly rewarding and often provides a nice little tax break providing the donation is to a qualified charitable organization such as a 501(c)(3) nonprofit or church. But in order to claim a qualifying donation on your tax return, you must be able to prove it. For cash donations under $250 (including checks and credit card transactions), you’ll need either a receipt, credit card bill or a canceled check with the date and amount. Donations of $250 or more actually require a written record of the donation from the qualified organization. That means an annual acknowledgement letter, statement or something similar. If you’re contributing goods (i.e. household items, clothes, canned food, vehicles, etc.), documentation is also required including the fair market value of all donated items, the date and name of the organization.
It’s worth noting that non-cash donations of $5,000 or more made to a single organization over the course of a year have incredibly high paperwork requirements. So, think twice before trying to deduct the donation of your library valued at $7k to the local school. Of course, you don’t ever want to report false donations. If you don’t have the proper documentation to prove the validity of your contribution, think twice before you claim it.
If you have any questions about tax audits or received a letter from the IRS indicating you are being audited, please CONTACT US right away. We’re here to help!