1. Unreported 1099 Income – This is perhaps the easiest way IRS can track down non-complying taxpayers. Every single Form 1099 issued to a taxpayer is only but a copy of the one in IRS records – IRS is aware of the income as it is also reported to them by the third party payer of compensation, interests, dividends, etc. Failure to report this income is one of the easiest flags for further review of tax returns.
2. IRS Home Office Deduction – Deductions for business use of a home is among the flags IRS often looks for in auditing a return. The business use of a section of the home is generally deductible on a return. However, taxpayers by and large do not keep sufficient records to substantiate the deduction, making it a prime target of audits.
3. Wage Income with a Schedule C Loss – A very convenient (and common) way to reduce your wage income is to claim business losses on Schedule C. IRS is of course aware of this and therefore makes loss claims on Form 1040 Schedule C on a wage income a good candidate for an audit.
4. High level of Charitable Deduction – Generally, taxpayers are allowed to take deductions on Form 1040 Schedule A for contributions to charitable causes. However, taxpayers are also required to keep good records of these contributions. Meanwhile, if your charitable deduction is significantly higher than for comparable demographics, your return is likely to be audited.
5. High Level of Unreimbursed Employee Expenses – Some unscrupulous tax preparers often take high levels of unreimbursed expenses deduction in order to increase refunds for the taxpayers. Deductions of unreimbursed employee expenses that are unusually high tend to be red flags on tax returns.
6. Round Numbers on deductions – Round numbers on Schedule A deductions are often red flags for audit reviews. IRS auditors tend to belief that people generally do not incur expenses in round numbers. As such, deductions claimed in round numbers make for excellent audit candidates.
7. Income from Offshore Accounts – Perhaps stemming from increasing cooperation between the US and foreign governments, IRS seems has become much better at tracking offshore accounts. Nowadays, IRS can more easily determine if a taxpayer had income from these accounts. Failure to report the income renders the return open for an audit and may subject taxpayers to heavy penalties and liabilities, including criminal.
8. Math Errors – Though most preparers use tax software programs to prepare their returns, there are still some returns that are submitted with math errors. Unfortunately, math errors, as innocent as they may otherwise be, tend to flag a return for audits.
9. Hobby Losses – Losses from hobbies or unprofitable ventures are not tax deductible. Some taxpayers, often in desperate search of deductions to lower their taxable income, claim losses from their unprofitable ventures. These deductions, especially occurring over several years, invariably are definite red flags for audits.
10. Auto, meal and entertainment expenses – IRS officials believe that many taxpayers claim business deductions for items and occasions that should actually be personal, nondeductible expenses, thereby making such deductions prime audit targets. To deduct auto expenses, you must establish the percentage of business use as well as the actual expenses incurred. As an alternative, you can claim a deduction equal to the documented business miles multiplied by a published IRS rate. You must have a receipt for all meal and entertainment expenditures of $75 or more, and the receipt must include the amount paid, the name and location of the restaurant or entertainment facility, the people you entertained, their business relationship with you, and the business discussion related to the occasion.
