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Nobody wants to endure a tax audit. If the IRS singled you out, what would you do? Here are some tips on why people get picked, what to do to prevent an audit, and what to do if you're singled out.
What is an Audit?
The IRS explains: an audit is an examination or review of a person's or organization's financial information and accounts to ensure information including the amount of tax reported on a return was correct. The IRS has three years from the filing date to audit tax returns.
Factors that Trigger Audits
Most are unlikely to be targeted, running about a .5% chance of being audited. However, the IRS has been increasing the number of audits it conducts, targeting abusive tax shelters, high-income taxpayers, and corporations.
These factors can contribute to being chosen for an audit:
- Your income. More than $1,000,000 in income increases your odds to more than 8%; more than 10,000,000 in income puts you in the 34% chance of audit group.
- Your profession. People who are self-employed and do not receive a W2 for their work are more likely to be selected.
- Home office expenses. Claiming them increases your risk.
- Related examination. If your returns include transactions with other taxpayers who were audited, such as investors or partners, you're more likely to be audited.
- Documents don't match. When Forms W-2 or 1099 or other documents don't match what's reported.
- Kinds of transactions reported. Disproportionately large business expenses, very big charitable deductions, tax shelter losses, excessive itemized deductions, and complex business and investment transactions raise red flags to the IRS.
- Rounded numbers. Be accurate, and check your figures.
- Hiding cash or other income. This is especially risky for people with offshore accounts.
- Audit history. If you've been audited before, your audit risk is higher.
- Random selection. The IRS lists computer screening and random selection as audit triggers.
How to Prevent an Audit
To help prevent an audit—and be ready for one just in case—do all of these things all year long:
- Keep at least three years' worth of records and tax returns
- Keep all checkbook stubs
- Keep all receipts and categorize them
- Keep and organize all bills
- Track cost basis for taxable investments and property
- Make notes about deductible items at the time
In Case of Audit
- You are entitled to a representative, such as a tax law attorney or a CPA.
- You have the right to appeal any findings, fines, or taxes that arise from an audit.
- Do not submit original documents to the IRS; make copies.
- Do not submit anything that was not requested.
If you're targeted by the IRS for an audit, place yourself on firmer ground by seeking advice from a qualified tax attorney.