Tax Read Time: 3 min

Red Flags for Tax Auditors

No one wants to see an Internal Revenue Service (IRS) auditor show up at their door.  The IRS can't audit every American’s tax return, so it relies on guidelines to select the ones most deserving of its attention.

Here are six flags that may make your tax return prime for an IRS audit.1

The Chance of an Audit Rises with Income

Only about 0.4% of all individual taxpayer returns were audited in 2019, which is the most recent data available.  However, the percent of audits rose to 1% for those with incomes between $200,000 and $1,00,000, and to 2.4% for those making over $1 million.2

Deviations from the Mean

The IRS has a scoring system it calls the Discriminant Information Function that is based on the deduction, credit, and exemption norms for taxpayers in each of the income brackets.  The IRS does not disclose its formula for identifying aberrations that trigger an audit, but it helps if your return is within the range of others of similar income.

When a Business is Really a Hobby

Taxpayers who repeatedly report business losses increase their audit risk.  In order for the IRS not to consider your business as a hobby, it needs to have earned a profit in three of the last five years.2

Non-Reporting of Income

The IRS receives income information from employers and financial institutions.  Individuals who overlook reported income are easily identified and may provoke greater scrutiny.

Discrepancies Between Exes

When divorced spouses prepare individual tax returns, the IRS compares the separate submissions to identify instances where alimony payments are reported on one return but alimony income goes unreported on the contra party's return.

Claiming Rental Losses

Passive loss rules prevent deductions of losses on rental real estate, except in the event when an individual is actively participating in the property's management (deduction is limited and phased out) or with real estate professionals who devote greater than 50 percent of their working hours and over 750 hours per year to this activity. This is a deduction to which the IRS pays keen attention.2

1.The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation
2. Kiplinger.com, 2021

The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. This material was developed and produced by FMG Suite to provide information on a topic that may be of interest. FMG Suite is not affiliated with the named broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Copyright FMG Suite.

Share |
 

Related Content

Business Solutions with Life Insurance

Business Solutions with Life Insurance

How can whole life insurance protect your business and reward and retain your key employees?

What is the Value of Your Business?

What is the Value of Your Business?

Ascertaining the value of your business is important for a variety of reasons.

The 12 Steps to Living Confidently: How to Cut Your Expenses

The 12 Steps to Living Confidently: How to Cut Your Expenses

The advice about cutting expenses makes it sound downright unappealing. No wonder many of us haven’t learned to finance well.

 

Have A Question About This Topic?







Thank you! Oops!

How to Make Smart Debt Decisions

Making smarter decisions about debt can help you reduce stress.

Tax Efficiency in Retirement

What role would taxes play in your investment decisions?

Traditional vs. Roth IRA

One or the other? Perhaps both traditional and Roth IRAs can play a part in your retirement plans.

View all articles

Taxable vs. Tax-Deferred Savings

Use this calculator to compare the future value of investments with different tax consequences.

What Is My Life Expectancy?

Estimate how many years you may need retirement assets or how long to provide income to a surviving spouse or children.

My Retirement Savings

Estimate how long your retirement savings may last using various monthly cash flow rates.

View all calculators

5 Smart Investing Principles

Principles that can help create a portfolio designed to pursue investment goals.

Protecting Those Who Matter Most

The importance of life insurance, how it works, and how much coverage you need.

Principles of Preserving Wealth

How federal estate taxes work, plus estate management documents and tactics.

View all presentations

Saving for College 101

Here’s a crash course on saving for college.

It May Be Time for a Financial Checkup

It’s never a bad time to speak with your financial professional about changes in your situation.

Leaving Your Lasting Legacy

Want to do more with your wealth? You might want to consider creating a charitable foundation.

View all videos