Watch Out for These 5 Red Flags on Your Tax Return

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If you stress out thinking about being audited, you don’t have to worry. Look out for these red flags and chances are low the IRS will look your way. [[{“value”:”

Did you know that a computer helps determine which tax returns should be audited? After returns have been processed, they’re run through a computer that looks for red flags. Each return is assigned a score reflecting how likely it is to contain errors. The higher the score, the more likely it will be audited.

Most of what the computer finds are simple mistakes, like missing a Social Security number or signature. In fact, if you receive a letter from the IRS saying it found a mistake on your tax return, there’s a very good chance it involves an easy-to-resolve issue. But on occasion, a taxpayer will receive a letter telling them the IRS plans to take a deeper dive into their tax return. When that happens, it could be for one of these reasons.

1. You failed to report all your income

Let’s say you work several jobs and forgot to include the income from one of those gigs. You receive a letter from the IRS’s Automated Underreporter program telling you that it has compared your tax return with documents (like W-2s or 1099s) and found a discrepancy. The IRS sends along a proposed adjustment to your return, including the additional tax due and a penalty. You can either sign off on the proposed changes or dispute the findings.

The fix: Don’t forget that the IRS receives income information and compares it against your return. Take time to gather all the documents you’ll need before filing. Estimating your income can lead to an accuracy-related penalty of 20%. For example, if you’ve underpaid taxes by $1,000, the IRS can tack on another $200 as a penalty.

2. Your deductions are out of whack

Your return may be flagged for an audit if your deductions are extensive compared to your income. Say you earn $75,000 annually, but report $40,000 in charitable deductions. Claiming you donated more than half your gross salary for the year may put you on IRS radar.

The fix: If you actually donated $40,000, you should absolutely claim it. However, make sure you have the receipts to back up your claim. The same is true of any deduction.

3. It looks like you got a little creative with business deductions

One in 10 working Americans were self-employed in 2023. That comes out to over 16 million of us who can claim a business deduction on everything from our home office to paper clips and printer paper. If you live in a 1,200-square-foot apartment and claim your home office (used exclusively for business purposes) is 500 square feet, it will raise both eyebrows and red flags. If you’re just getting started and earned $25,000 last year, claiming $20,000 in deductions will also likely earn you an audit.

The fix: Remember that the IRS takes a closer look at business deductions. Claim any deduction you are eligible for, but keep the receipts — for everything.

4. Using round numbers

According to CNBC, consistently using round numbers makes the IRS think you’re estimating. By all means, if you’re making a claim for $3,000 and the actual cost was $3,000, go with it. However, if you’re swagging a guess that it was $3,000, you’re better off waiting until you have the documentation showing the precise amount.

The fix: Take your time and wait for precise amounts, even if you already have your tax preparation software in hand and want to get started. That way, if you are audited, you have nothing to worry about.

5. You’re a millionaire

Having millions of dollars in your bank account sounds pretty good, doesn’t it? However, the more money you earn, the higher the likelihood of being audited. In 2023, about 1% of taxpayers earning less than $200,000 were audited. For those earning $1 million or more, the percentage was 12.5%. The more complex a tax return is, the more likely it will trigger an audit.

The fix: Make sure you have a good team around you, from bookkeeper to CPA.

Whether you’re hoping for a refund to plump your emergency savings account or just want to put taxes to bed for the year without owing much money, the easiest way to prevent an audit is to understand which issues are most likely to raise red flags and to avoid those issues.

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