The Internal Revenue Service audited only 0.5 percent of tax returns filed in 2017. This is a small percentage, but still constitutes almost one million tax filers. There are several suspicious actions that increase the odds of being one of those audited filers and having to undergo an IRS audit defense and appeals.
The IRS uses automated computer programs to identify suspicious items. A discriminate function score is assigned to each return to identify ones that need further examination.
A charitable contribution that is disproportionate with the filers overall amount of income is one item that has a negative impact on a DIF score. Any reported income that does not match with Forms 1099 and W-2 is another red flag.
High expenses and other itemized deductions are other warning signs. Issues may be raised if there is accidental duplication of employee and business expenses and taking losses on activities that are hobbies.
It is important to have documents supporting legally allowable deductions that are high. Unreimbursed employee business expenses have been disallowed since 2017.
Inflated rental expenses invite review. It is important to know the difference between a deductible expense and one that may be capitalized over years.
Also, filers who claim a 199A deduction for real estate rentals should be careful that they qualify for it. They must have a contemporaneously written logs documenting that they performed activities approved for deductions.
Divorced parents should be careful that they do not claim the same dependents. They must produce birth certificates, school record and other documents. Some taxpayers who claim head of the household filing status are often reviewed because the way they categorized dependents with this status may be confusing.
Reported income that does not meet lifestyle expenses is another red flag. One example is a high mortgage interest deduction for a house that is apparently unaffordable based on the taxpayer’s reported income.
Reporting the exact ratio of income and expenses to qualify for a large earned income credit often merits scrutiny. A filer who claims EIC and file a schedule c business form should be able to show proof off all expenses and listed income. Other activities, such as failing to report cryptocurrency transactions or disclosing overseas accounts, may be suspicious.
To defend yourself, you should gather financial and tax documents. An attorney can also represent a taxpayer’s interests at an audit.