As tax professionals, we are asked each year by our clients:
The IRS will audit hundreds of thousands of individual tax returns this year. That number represents a small percentage of returns filed and in fact, for 2014 will comprise only .80% of taxes filed. With continued IRS budget cuts, the rate of audits is dropping, but this is little consolation if your return is selected. Although the audit rate is about 1/120, people with income over $200,000 have a one (1) out of thirty (30) chance of being selected and those with income over one million dollars have a one (1) in nine (9) chance. Being informed and organized will help you be prepared if selected.
The purpose of an audit is to verify items reported on a tax return, so the easiest way to survive a tax audit is to plan for one in advance. The government usually has three years in which to begin an audit, and frequently an audit won't begin until a year or more after filing your return. So, don't trust your memory, instead, leave a good trail. If you have to refer to records later, be able to support all of the entries on the return.
To do this, save all records in one place and hold on to your calculations. The simple step of retaining good records can save an individual from hassle and headaches should an audit take place. We recommend keeping the following documentation on an ongoing basis or at least five years:
There are items that create a red flag for the IRS and can result in additional scrutiny, increasing the likelihood of an audit some of these include:
Disproportionate deductions compared with those of similar income levels (i.e. charitable deductions, interest expense)
Schedule “C” taxpayers (self-employed)
Meals & Entertainment deductions
Claiming 100% business use of a vehicle
Claiming the home office deduction
Small business owners in cash intensive businesses
Revenue over $1,000,000
Reporting a hobby as a business of Schedule C
Items with additional requirements
Real estate losses
Failing to report a foreign bank account and/or other foreign assets
The scope and time involved in an audit depends on the complexity of the return being examined. We always recommend being represented by a CPA during an audit, even if you prepared your own return. It is worthwhile to engage a tax professional that knows what issues the IRS agent is likely to focus upon and can prepare accordingly. Additionally, a tax professional knows an IRS agent may take an aggressive position even though courts and other authority have expressed an opposing opinion on the issue.
If you are facing a tax audit or simply want to improve your recordkeeping, our office stands ready to assist you. Please call 615-244-3991 to set up an appointment to discuss this or any other aspect of your taxes.