At the Hoffman Law Offices, one of the most commonly asked questions by clients and potential clients is what they can do to decrease the chances of facing an auditor and examination by the IRS, California Franchise Tax Board (FTB), or another relevant taxing authority. Perhaps more urgently, I am also frequently asked by potential clients who have already been contacted by the IRS or FTB, “What did I do to trigger an audit?”
As to the first question, there are certainly particular steps and best practices a taxpayer can follow to reduce or minimize their chances of facing an audit. However, for the second question, things can get a little murkier in this respect. In some instances, it is almost certainly something the taxpayer did or failed to do that triggered the audit. However, in other cases, the audit may simply be the product of a characteristic of the taxpayer or his or her finances. For instance, taxpayers with reported gross incomes significantly greater than the local or national average are much more likely to face an audit. But, in getting back to the first question, there are a few steps that all taxpayers can take so that they do not raise additional red flags and unnecessarily increase their chances of facing an audit.
1. Declare all Income Whether it’s W-2 or 1099-Based
While most people understand that they need to declare all income that they earn through the regular course of their employment, people’s understanding of the rules can get a bit more “nuanced” when it comes to non-regular income or 1099 income. For instance, people often wonder if they can get away with failing to disclose a one-time bonus or reimbursement granted by an employer. 1099 income can cover an array of situations ranging from work performed on a non-employee basis to income from interest, investments or pensions. However, the takeaway remains the same: If you receive income, you need to report it.
The digital age and proliferation of computers and electronic records have made it incredibly easy for the IRS and state agencies to spot taxpayers who fail to report income. The IRS engages in processes known as information matching and form matching. These practices leverage the fact that both the payor and the recipient of the income file corresponding statements with the agency. Thus, if the IRS receives only one report of particular income, it is a fairly decisive red flag that the other party forgot to report or is intentionally concealing income.
2. Don’t Get Sloppy With Your Filings
People understand that taxes are important, though, they may not necessarily realize that the information in the tax filing they submit is done so under the penalty of perjury. However, despite having, at least, a general understanding that the information in their taxes is important and, if incorrect, can lead to large amounts of fines, penalties, and interest taxpayers are surprisingly adept at rationalizing sloppiness. Reasons range from “the IRS won’t care about me” to “I’m just a needle in the haystack,” but the simple fact is that taxpayers do face audits for sloppy practices like rounding numbers, inputting the incorrect numbers, math errors, or selecting a deduction or other election without understanding what it exactly means or its requirements.
The information matching process used by the IRS frequently comes into play here. The IRS not only ensures that it receives corresponding reports of income but also checks to make sure that the numbers in those reports square. If you report one set of numbers when your employer reports the second set, it is likely that the IRS will inquire about the discrepancy.
3. Avoid Extremes
The IRS applies a broad array of fraud detection tools to identify taxpayers who are likely to be engaging in a tax fraud or tax evasion scheme. At least some of the tools are based on methods of statistical analysis. Therefore, taxpayers who stray significantly from reporting norms for those with like or similar amounts of income are likely to face additional scrutiny. For instance, the classic example is the taxpayers who claim large charitable deductions to reduce his or her tax burden. If the deduction is particularly large for your income level and, it is likely to attract attention even if it is completely legitimate. Therefore, always avoid overstating deductions or credits. And if you do happen to be feeling particularly charitable in a given tax year, be sure to ask for, receive and retain records of the donation. Should you face the audit, having these records can be the difference between a relatively problem-free process and painful penalties.
Facing an IRS or California FTB Audit?
If you are already facing a tax audit and believe that you may have made mistakes on your past filings, it is important that you work with an experienced tax lawyer who can guide the process. All too often, taxpayers mistake the IRS agent’s professionalism for friendliness and make disclosures and inartful statements that ratchet up the level of suspicion and may even trigger a criminal investigation. If you are facing an audit call a California tax attorney at the Hoffman Law Offices at 800-897-3915 today to schedule a free and confidential consultation.