The Top 10 IRS Audit Triggers and Strategies to Avoid Them

The thought of being the subject of an IRS audit is something that all taxpayers dread. Audits are done randomly, but there are others that are caused by certain factors. In this blog, we will share the top 10 IRS audit triggers and how to increase your chances of avoiding them.

Before we move on to the IRS audit triggers, let’s talk about what an IRS Audit is to understand better why such audits happen.

What is an IRS Audit?

Taxpayers submit financial documents reporting their income and expenses. An audit is an examination of such documents to validate their accuracy. The review typically covers tax reports for the past three years, but it can go back to six years or more, depending on the nature of irregularities and non-compliance discovered.

Trigger 1: Incomplete reporting of income 

Forms that report your income, such as W-2s and 1099s, are all submitted to the IRS. The IRS system can easily detect discrepancies if you don’t include all these forms on your tax return. Irregularities like these are IRS audit triggers; hence catching their attention and increasing your chance of being audited.  

To avoid this trigger:

  • Report your income from all sources, even if you don’t receive a form

Trigger 2: Claiming large or unusual deductions 

The IRS compares your deductions to other taxpayers in your income bracket and industry. If your deductions are significantly higher or lower than the average, or if you claim rare or unusual deductions, the IRS may suspect you’re inflating or fabricating them.

To avoid this trigger:

  • Keep an accurate record of all your expenses and receipts
  • Only claim deductions you’re legally entitled to

Trigger 3: Committing math errors or typos 

Simple mistakes on your tax return can raise red flags for the IRS, especially if they affect your tax liability or refund amount. The IRS may think you’re trying to hide something or cheat on your taxes.

To avoid this trigger:

  • Double-check your calculations and entries before filing your return
  • Use tax software or hire a professional preparer

Trigger 4: Filing a Schedule C with high income or losses

A Schedule C form reports income and expenses from a sole proprietorship or a single-member LLC. The IRS knows these businesses have more opportunities to underreport income or overstate deductions, so they tend to scrutinize them more closely. 

To avoid this trigger:

  • Keep detailed records of all your business transactions and receipts
  • Report your income and expenses accurately and honestly

Trigger 5: Claiming the Earned Income Tax Credit (EITC) 

The EITC is a refundable credit that helps low- to moderate-income workers and families. However, it is also one of the tax code’s most complex and error-prone credits.

The IRS estimates that about 33 percent of EITC claims are paid in error due to honest mistakes or intentional fraud. 

To avoid this trigger:

  • Meet the income and filing status requirements
  • Have a valid Social Security Number for yourself and your qualifying children
  • File Form 8862 if you were previously denied the EITC

Trigger 6: Claiming a large home office deduction

If you work from home, you may be able to deduct some of your expenses related to your home office, such as rent, utilities, insurance, and depreciation. However, this deduction has strict requirements and is often abused by taxpayers who claim personal expenses as business expenses.

To qualify for this deduction, you must use part of your home exclusively and regularly for business purposes. You must also have no other fixed location where you conduct substantial business activities.

The IRS may audit you if you claim a large home office deduction or if your home office is part of a larger space used for personal purposes. 

To avoid this trigger:

  • Keep accurate records of how much space and time you use for your home office
  • Use Form 8829 to calculate your deduction to avoid triggering an IRS inspection

Trigger 7: Taking early withdrawals from retirement accounts

If you withdraw money from your IRA, 401(k), or other retirement account before reaching the age of 59 1/2, you may have to pay a 10% penalty on top of the regular income tax. The IRS may audit you to verify that you reported the withdrawal correctly and paid the penalty or that you qualified for an exception to the penalty. 

To avoid this trigger:

  • Try not to tap into your retirement savings early unless absolutely necessary
  • Ensure you follow the rules and report the withdrawal properly

Trigger 8: Participating in abusive tax shelters or schemes

To reduce their taxes, some taxpayers participate in complex transactions or arrangements designed to exploit loopholes or evade taxes. Beware, as the IRS is constantly on the lookout for abusive tax shelters or schemes, and they may audit you if they suspect you’re involved in one. 

To avoid this trigger:

  • Steer clear of tax shelters or schemes that sound too good to be true or promise huge tax savings without any economic substance or legitimate purpose

Trigger 9: Failing to report foreign assets or income

If you have foreign bank accounts, investments, or income sources, you may have to report them to the IRS and the Treasury Department. The IRS has access to information from foreign financial institutions and governments, and they may audit you if they find any discrepancies or omissions on your tax return. 

To avoid this trigger:

If one of your family members or business partners gets audited by the IRS, you may also get audited if you have any financial ties or transactions with them. The IRS may want to verify that both parties reported their income and deductions consistently and correctly. 

To avoid this trigger:

  • Ensure that you and your relatives or associates file accurate and honest tax returns
  • Keep a record of transfers or payments made

To avoid being inspected by the IRS, ensure that you and your relatives or associates file accurate and honest tax returns. Keep records of any transfers or payments made.

Final Thoughts

Knowing how to avoid the 10 IRS red flags we discussed can help reduce your chances of being audited.

Keep a complete and accurate record of your financials, turn in your tax returns, and pay taxes on time. It is also very important to respond to the IRS letters immediately.

If you get subjected to an audit, properly compiling records helps resolve the issue quickly. 

If you’re unsure how to handle an audit or you are facing a complex one, you may want to consult a reputable accounting firm, such as Cloud Friday Accounting, for advice and representation.

Our team of experts can do more than help you during an audit. We can help you avoid one.

Contact us today.

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