IRS audit

Why Am I Being Audited By The IRS?

Statistically, your odds of being audited by the IRS range somewhere between slim and none. Very few people actually receive those dreaded notices. But there are circumstances that can boost your odds of being audited considerably. In many cases, honesty is the best policy for avoiding an audit. But sometimes, there is little or nothing that you can do to reduce your odds.

Your Return Triggered an Audit Flag

You’ve probably seen at least one list of common “audit flags” to avoid. For instance, tax returns for people who are paid largely or entirely in cash, such as wait staff, are often flagged for audits. People who make large charitable contributions (and claim large charitable deductions) may also trigger an audit flag.

The problem is that many common audit flags are legitimate tax deductions or credits. For instance, if you are a consultant or entrepreneur with a legitimate home office, you’re entitled to claim the home office deduction. Likewise, if you are entitled to the Earned Income Tax Credit, it’s financially unwise to leave that money on the table.

You may not even realize that you have tripped an audit flag. For example, according to a 2013 report from the IRS Taxpayer Advocate Service, an astonishing 90 percent of tax returns for adoptive parents who claimed the adoption tax credit were flagged for review. Almost 70 percent of taxpayers claiming the adoption tax credit were subjected to at least a partial audit.

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The take-home lesson here is that if your return stands out from the ordinary, you may very well trigger an inquiry from the IRS. But that’s no reason to skip out on legitimate tax breaks. Instead, maintain meticulous records so that you can justify your claims.

Someone Ratted You Out

Yes, it’s true, people really do turn in their spouses, friends and co-workers to the IRS, sometimes out of spite, but also from greed. The IRS Whistleblower-Informant Award pays informants up to 30 percent of all tax penalties and other funds collected as a result of provided tips. Even people who are involved in tax evasion schemes may collect rewards under the program. They must voluntarily provide information and their rewards may be reduced, but they still get paid.

Someone You Do Business With Was Audited

Do you do business with someone who has been audited? You may very well be next. At the very least the IRS may request clarification about your dealings with the person being audited. If your records are in order, you shouldn’t have any reason to worry.

You Filed Your Return Late (or Not at All)

Requesting an automatic extension for time to file your federal income tax return does not count as filing your return late, nor does requesting an extension trigger an audit flag, so relax. On the other hand, filing your return after April 15 without having requested an extension does make your return more likely to be flagged for an audit. If you fail to file a return, the IRS may file one for you – minus many tax breaks to which you may rightfully be entitled. If you file a late return, the IRS will hit you with a hefty penalty of 5 percent of the taxes that you owe every month for up to 5 months. Ouch.

You’re Really Rich

If you are a wage-earner who files a return with W-2 forms and reports income of less than $200,000, your chances of being audited in 2013 were a miniscule 0.4%, according to Forbes. During the same period, the IRS audited the tax returns of 1.2 percent of entrepreneurs and self-employed workers who earned less than $200,000. By contrast, the IRS tagged 12.1 percent of taxpayers with incomes over $1 million in 2013 and 17.1 percent of taxpayers with assets in excess of $10 million.

You Drew the Short Straw

The IRS selects a certain number of returns for audit strictly by random. But the recession and budget cuts have reduced the number of random audits in recent years. The number of random audits was likely further reduced during 2013 because of the sequester, according to Forbes.