Top 10 Reasons Why You May Be Audited by the IRS

Outside an Internal Revenue Service building

No one wants to go through an audit from the IRS. It’s time consuming, it's stressful, and it could very well end with you paying steeps fines or even facing jail time.

It’s also very unlikely to happen to you. In 2019, the IRS audited just 771,095 tax returns, which is miniscule compared to the overall number of returns each year. And, if we’re being honest here, it’s not something you should be afraid of presuming you haven’t misrepresented yourself. The process certainly isn’t pleasant, but as long as you have the necessary supporting documents you should make it through the audit just fine.

That said, given the choice between getting audited and not getting audited I think we’d all choose no audit. So here are the ten most common reasons why your return could get pulled for an audit this year.

1. Making mistakes

Errors are a fast way to draw attention to your return – the bigger the error, the more likely it is to be detected, and the more likely you are to find yourself trying to explain it in an audit.

Unfortunately, typos or other unintentional mistakes can be just as costly as the intentional ones (otherwise known as fraud), so proofread your returns thoroughly before you submit them. And if there’s any element of the return that you don’t quite understand, ask a professional. (There’s also lots of great tax filing software out there to help you out!)

2. Making lots of money

The more money you have, the more likely it is that you'll be audited. Which makes sense, honestly, because the wealthier you are, the more complicated your filing and the more tax dollars are at stake. 

No matter how high or low your income, it’s always important to make sure that your returns are correct and fully supported – just keep in mind that the more money you make the more likely you are to have to prove that.

3. Not reporting all of your income

Early every year you should receive a copy of all applicable W-2 and 1099 forms, detailing all of your income for the previous year. The IRS also receives this information. If your return fails to list any of the income listed on those W-2s and 1099s, the IRS computer flags your return and an audit is very likely to follow.

4. Claiming too much in charitable donations

Giving feels good, but where the IRS is concerned, giving too much can appear somewhat suspicious. If your charitable donations greatly exceed the average (typically around 3% of your total income) that may result in your return being flagged.

The key to deducting for charitable donations is to make sure you have appraisals for the items you’ve donated; donate only to nonprofit organizations who can provide you with a receipt for the transaction; and be sure to include a completed form 8283 for all items valued at over $250.

5. Claiming a home office deduction

Business deductions in general are a little tricky to navigate and usually garner extra attention from the IRS. If you work from home (which many of us now do) or use your home as your principal place of business, you can deduct expenses related to the business use of your home, including rent/mortgage, insurance, repairs, utilities, etc.

Keep in mind, however, that the IRS defines a home office as a space within your home used “exclusively and regularly for your trade or business.” A guest bedroom used exclusively as your office would count, but if you work from the couch every day you couldn’t claim the living room as your home office.

6. Claiming too many business expenses

Self-employed filers, by and large, represent the highest risk of under-reported income and over-reported expenses. Be careful when completing your Schedule C deductions and remember that eligible business expenses must be ordinary and necessary.

Meanwhile, if you’re claiming business meals, travel or entertainment keep your receipts and be prepared to substantiate the validity of your claims.

7. Claiming rental losses

Generally speaking, renting is usually defined as a passive activity by the IRS – meaning you aren’t actively performing a service, you’re simply in possession of an asset that may or may not generate income. You can’t claim losses for passive activities and doing so will likely get you audited.

There are two exceptions to this. If you’re actively participating (defined as owning at least 10 percent of said property, making management decisions and either arranging for services or providing them yourself) in the renting of a property then you can claim up to $25,000 in losses against your regular income. (If your adjusted gross income is greater than $150,000, however, you will not be able to claim any rental losses.)

Also, if you are a real estate professional (broker, landlord, etc.) and more than 50% of your working time (as well as a minimum of 750 hours annually) is spent working in the real estate industry, than there is no limit to the amount of losses you can claim.

8. Claiming a loss for a “hobby” activity

What separates a business from a hobby in the eyes of the IRS is the reasonable expectation of earning a profit. An expensive hobby that isn’t treated like a business (car racing, horse breeding) may result in financial losses, but if you attempt to claim such losses on your return you may be inviting an audit.

9. Running a small, cash business

It may not be fair, but smaller businesses that rely more heavily on cash transactions (taxis, bars, salons, car washes, etc.) tend to be more prone to audits.

Record-keeping may be more difficult when the majority of transactions are with cash, but that’s why these businesses are subjected to more audits and that’s why it’s so important to keep accurate records.

10. Using too many round numbers

Unless you’re specifically instructed to modify your entry in any way, always use exact figures. When all of your figures are in intervals of $100 it looks like you’re making your numbers up – and when that’s the case you better believe you’ll find yourself the unlucky recipient of an audit.

Audits are unlikely for most filers, but if you're in a high-risk group, be sure to use professional help whenever you have questions. Good luck!

Tagged in Taxes, Laws and legal questions

Jesse Campbell is the Content Manager at MMI, focused on creating and delivering valuable educational materials that help families through everyday and extraordinary financial challenges.

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