As Audits Increase, Taxpayers Should Seek Professional Assistance to Avoid Trouble with the IRS

Here's some tax advice from the National Tax Advice Day web site regarding how to deal with tax audits. First, some background:

Last year, the total number of individual taxpayer audits topped 1 million for the first time since 1999, according to the IRS, and that number will likely keep growing. The IRS has announced plans to add more than 2,000 positions to its audit operations this year. 

According to H&R Block, even though the vast majority of taxpayers are honest, the cost of those who do cheat is felt by all.  In fact, the IRS Taxpayer Advocate 2004 Annual Report stated that each individual pays almost $2,000 in taxes annually to subsidize those taxpayers who do not pay their share.

Next, they detail some factors that may trigger an audit:

In 2006, the IRS will audit 1 in 107 returns filed by individuals and families. But for those with incomes over $100,000, the odds jump to 1 in 63.

H&R Block advises that to minimize the risk of an audit, taxpayers should be aware of red flags that typically trigger scrutiny from the IRS. “Taxpayers actually can attract unwanted IRS attention with two of the most common mistakes - failing to sign the return and including incorrect Social Security numbers,” Burlison said.  “It really does pay to double-check your return before filing.

“Better yet, e-file,’’ she said. “It’s quicker and you’ll be notified of an error within 24-48 hours. Then you can easily correct the mistake and resubmit the return. Remember, e-filed returns are 99 percent accurate versus 81 percent for paper returns.’’

In making a determination about who to audit, the IRS relies on sophisticated computer technology to identify potential audit targets, including a highly confidential computerized formula that checks your return against specific computer models. A questionable return is then flagged and scrutinized by IRS agents.  Burlison said there are a number of areas that the IRS examines closely when determining whether to launch an audit.

These include:

• Unreported income. If you received money (interest, dividends, wages, gambling winnings, etc.) that was reported to the IRS, the IRS will notice pretty quickly if it’s not on your tax return. And just because a payment -- such as interest under $10 or contract work under $600 -- wasn’t reported to the IRS by the payer, that doesn’t mean you can omit it from your tax return. Any money you receive is taxable, unless the law specifically exempts it from tax.
• Itemized Deductions – Taxpayers who itemize are more likely to draw scrutiny from the IRS than those who do not. A key trigger for the agency is deduction amounts that appear to be outside the norm, whether for medical expenses, vehicle expenses, or business meals.
• Casualty Losses – Although losses from fire, theft or storms are deductible, they can only be deducted if the total losses exceed an insurance reimbursement by $100 and exceed 10 percent of an individual’s adjusted gross income after the insurance payment is received. (But special rules allow victims of Hurricanes Katrina, Rita, and Wilma to ignore the $100 and 10 percent requirements.) Unfortunately, some taxpayers in areas hard hit by natural disasters have seen this as an opportunity to claim casualty losses even if they didn’t suffer any damage.  Audits help discourage this practice. Taxpayers with legitimate losses should maintain complete records in case their returns are selected for review.
• Hobby Losses – The IRS takes a dim view of individuals who work full-time but also operate side businesses that are essentially hobbies and perennial money-losers. Therefore, it pays to keep detailed records of all business expenses, and to make sure they’re separate from personal expenditures. If you’re claiming business expenses, run the business like it’s meant to make money and keep records to track what you’re doing to improve your profitability.

They end with some good advice:

“Given the risks of an expensive audit, paying strict attention to the rules is the only smart decision you can make,” Burlison said. “There are lots of rules around what needs to be reported and what doesn’t.  What’s deductible, what’s not and what records you have to keep.  A tax professional that works with many taxpayers throughout year will have the knowledge and the experience to stay on the right side of the rules.  An added benefit in choosing H&R Block as your tax preparation provider is our audit assistance service, provided free of charge through our Standard Guarantee. If the IRS audits you, an H&R Block representative will assist you in answering questions regarding the preparation of your tax return.

This is another reason I use an accountant to do my taxes. If an audit occurs, they'll be right there with me.

FMF recommends: H&R Block.  Do it yourself or have us do it.  It's never been easier.

Comments

[P Murphy]

It is indeed a sad day when a recommendation has to made to use a professional tax preparer because our tax laws have become so complex.

As a matter of principal, I prepare and file my own taxes. I am as honest as I know how to be based on the jumbled tax code and multiple forms that have to be filled out. I have chosen not to be intimidated into paying to have my taxes done for me. If I get audited, I have nothing to hide. I may make an honest mistake here and there, but studies have shown that rarely do two professional tax preparers come to the same numbers either.

As a side note, I am not sure a spokesman from H&R Block is the best person to recommend I get my taxes prepared professionally, considering this is the service he sells. It just seems like of bit of a conflict of interest to me.

[FMF]

Ha! A conflict of interest? You think?

I used to do my own taxes as well, but now let someone do them for me. I think they save me more than what I pay them plus I save 30-40 hours of time (and frustration!). It's an investment well worth it to me.