How to Avoid Getting Audited

Alden Wicker
Posted

Tax time is annoying enough without the IRS knocking on your door or sending you a stern letter saying they think you’re trying to pull a fast one.

But the IRS has audits for a reason—so that everyone pays their fair share.

In order to quickly process millions of tax returns, the IRS has certain flags that will automatically trigger an audit. That doesn’t necessarily mean you’ve done something wrong, just that the return you filed has something that might signify you’re trying to defraud the IRS. But if you did everything correctly on your return, you should be able to prove that you are paying all of your taxes. The IRS will then agree with you and leave your return the same, and the audit will be over without any fines or (God forbid) jail time. Phew!

The audit can be conducted either by mail or in person, and there are three possible outcomes:

  1. The IRS decides all is well and the return stays the same.
  2. The IRS proposes a change and you agree to it and/or pay more taxes, interest or a penalty (and in rare, severe cases, forfeiture of property and jail time).
  3. The IRS proposes a change, and while you understand it, you don’t agree. In the latter case, you can appeal or enter into a mediation with the IRS.

We’ve listed the top audit triggers for you, how to know if you’re in the wrong and what proof you’ll need to ward off a full-blown audit, fines and frustration:

1. Reporting the Wrong Taxable Income

You can’t lie about your taxable income, because both you and the IRS received your W-2 and 1099 forms, for both full-time employees and self-employed individuals.

Perfectly OK: Making a small math error. The IRS will correct that.

Not OK: Estimating or fudging how much you’ve made, even if you’re a freelancer.

The Proof You Need: Compare the 1099 or W-2 you receive from the company against your own records. If you think it is wrong, inform the company and ask that they file a corrected 1099 or W-2 with the IRS.

2. Huge Donations on a Small Budget

The IRS will raise its eyebrows if you’re giving away large charitable donations when you don’t have much income.

Perfectly OK: You gave a generous donation to your alma mater … and then suddenly lost your job, making your income lower than expected.

Not OK: You’re getting creative with your charitable deductions. (“That 1995 Camry I gave to charity is worth at least $15,000!”)

The Proof You Need: Get your large donation appraised, file form 8283 for any donation over $500, and make sure you keep all charity receipts and follow the IRS’s tips for charitable donations.

3. A Steak Dinner With the Clients

Rules for claiming this are strict, so it’s a smart idea to read up on them before trying to make the government pay for your nights out on the town.

Perfectly OK: Deducting 50% of the cost of a reasonably priced meal where you entertained potential clients for your business.

Not OK: Deducting the cost of a lavish steak dinner with rare champagne as entertainment, and then trying to deduct it again as a travel expense. Or deducting half the cost of a concert ticket you bought from a scalper who charged you $150 more than face value. To see more instances, read this publication from the IRS.

The Proof You Need: Keep all receipts, and record the dates and times, description of the expense, the business purpose and business relationship. More details are here.