When my clients come to me and provide me their tax information, I sometimes see red flags pop out that I address with them before filing. This review helps to minimize any issues they might have with future IRS reviews/audits. However, I also have taxpayers who come to me to represent them with tax problems. Sometimes, the return is accurate and clean, while other times, there are obvious flags in the return that could have been addressed prior to filing the initial return. This includes Schedule C for independent contractors and small business owners, Schedule E for Real Estate investors, as well as partnership and S-Corp filers. Today, we’ll review some of these flags.
- A Tax Return has Round Numbers for expenses (or income). Whether there are business deductions for Office Supplies of $5,000 even, travel of $5,000 even, ir cell phone costs of $3,000 even, or perhaps interest expense of $20,000 even to be itemized, that is typically a flag for the IRSs computers. It says ESTIMATE in bold letters.
- Not reporting All Income, Taxpayers are required to report income all income; not only what they have a tax form for. If audited, the IRS will be comparing amounts reported by clients to 1099 from clients, amounts reported by merchants used, and will often review bank accounts for cash and check amounts received during the year. Be prepared to account for all amounts received.
- Not Tracking Mileage, Do you really need to track your mileage? The answer is yes. When taxpayers pulled for audit come to me, I often see mileage amounts that are round numbers such as 20,000 miles. Once again, a big flag. Technically, taxpayers must track mileage contemporaneously, but the good news is that the IRS will typically accept logs rebuilt after the fact, assuming they are reasonable and can be supported.
- The profit of your business just happens to come to Zero. Similar to the rounding of income and expenses, this is often an audit flag. If it occurs (profit of zero or close to zero), report accurately, but beware it may be pulled for this reason.
- Business Expenses out of the norm for similar industries and sales. y advice is to report accurately whether you are over or under the norm. Don’t be afraid to deduct legitimate expenses but be aware that these areas are highly scrutinized.
- An S-Corporation reporting zero Shareholder’s wages. Shareholders of S-Corporations must be paid “Reasonable Compensation” for the value of their services. A Zero for owner compensation is a trigger for an audit. Be prepared to support your calculation of shareholder compensation and why you were paid Fair Market Value for your services.
- Did you receive information statements? These may be related to W2’s, business income, Mortgage Interest, Stock Sales, and other matters. Remember, that the IRS receives these as well. Today, audits are typically correspondence audits, where the return does not match to 3rd party information that the IRS receives. The IRS will send a form CP2000 and require that the taxpayer respond to the issues on the notice.
It’s important to get the return accurate the first time. If the return is revised to reflect additional taxes owed by the taxpayer, late payment penalties accrue at .5% per month up to a maximum of 25%. In addition, the taxpayer may be subject to an Accuracy Related Penalty of 20% in certain circumstances.
Do You Need Help?
If you need help professional assistance related to completing your tax return, or responding to an IRS audit, CP2000 notice, or any IRS problem, please call me at (972) 821-1991 or email me at [email protected].
