Navigating the labyrinth of U.S. tax laws and regulations can be daunting, partially because the risk of being subjected to an IRS audit looms large for many taxpayers. While the IRS audits only a small percentage of tax returns, certain red flags may increase the likelihood of drawing the agency’s attention.
For example, statistically, individuals with higher incomes tend to be audited more frequently. This is partly due to the complexity of their financial affairs and the greater potential for error or misreporting. Moreover, the IRS matches the income that each individual reports with information from employers and financial institutions. Discrepancies here are a surefire way to heighten the IRS’s interest in your return, whether you earn a higher income or not.
Excessive deductions
Deductions are a vital tool for lowering taxable income, but they must align with income levels. The IRS has thresholds for what it considers ‘normal’ in terms of deductions across different income brackets. Taxpayers who claim significantly higher deductions than others in the same income range may trigger an audit.
Self-employment
Self-employed individuals may be more likely to face audits, especially if they report a loss or show fluctuating income. The IRS may seek to verify the accuracy of their reported income and expenses.
Rental losses
Real estate investors who claim rental losses, especially those who aren’t real estate professionals, can attract scrutiny. Passive activity loss rules can be complex, and incorrectly claiming these losses can trigger an audit.
Foreign accounts and assets
With the IRS’s increased focus on offshore tax avoidance, individuals with foreign bank accounts or assets might find themselves under closer examination. Reporting of foreign assets has become more stringent, and non-compliance can lead to audits and significant penalties.
Ultimately, if you’re concerned about being audited, be as proactive as you can about seeking legal guidance. When it comes to tax preparation, it is far better to be safe than sorry.