The IRS currently does not have an official motto. A fitting motto might be “The IRS – we have what it takes to take all you have!”
And this isn’t just cynical hyperbole. In 2017, the IRS audited more than 771,000 tax returns of individual Americans and businesses. Those audits resulted in over $17.3 billion in additional taxation for those affected.
Pay attention when you file your tax returns. Here are five tax mistakes that could get you audited.
Hiring an inept tax preparer
Make sure that you hire a tax preparer who is properly credentialed and competent. Just hiring the first tax preparer you come across or because someone referred them to you could get you in trouble.
An incompetent tax preparer can unfairly raise red flags for you with the IRS. Sloppy or questionable tax paperwork could cause the IRS to audit your current returns and of those for the past few years.
Check the preparer tax identification number against the IRS’ public database of affiliated tax preparers. Use a tax preparer who is an enrolled agent, or someone licensed by the IRS to prepare taxes.
Or get your taxes prepared by someone who is a certified public accountant or a licensed attorney. Make sure your tax preparer is licensed, credentialed, and can be vetted relative to their experience before you hire them.
Mistaking a hobby for a business (or vice versa)
If you derive an income from a hobby, and not a business or primary income, then you can deduct expenses relative to the necessary expenses related to the hobby.
What legally differentiates a hobby from a hobby-based business depends on how much money you make over a five-year period.
If you fail to generate profits from a hobby-based business for three out of five years, then the IRS will consider your hobby-based business as a mere hobby. So, be careful with your itemizations and deductions.
And be careful if you deduct business losses from your hobby-based business because expenses exceed profits for several years. If you lose money for three out of five years, then the IRS may consider your business as a hobby — and not deductible.
Making suspicious deductions
Keep meticulous records if you make a lot of deductions every year. The IRS may audit you to verify those deductions.
For example, if you deduct the cost of items you give away to charity every year, make sure you have records of those gifts. The IRS may suspect that you are inflating the value of the items you give to thrift stores or charities.
The Earned Income Tax Credit is primarily designed to help poor and working class people with children. If you make a lot of money and try to claim the EITC then you risk an audit.
Not claiming all sources of income
The IRS knows all about any side hustle, freelance, or supplemental income you may be receiving if a 1099 was filed or if it is automatically reported.
Trying to keep alimony payments, foreign bank accounts, or supplemental incomes secret while filing returns or your primary income will probably get you audited.