Though we can’t guarantee you won’t be audited, there are some things that might help you lessen your chance of being audited. by the IRS.
Try to use a different bank account for your business finances and personal finances, so if you happen to get audited, your business will have no financial ties with the IRS. Be careful what information you put on your tax returns.
In the past, your small business tax return had a very low chance of being audited. Out of 4 million partnership returns in 2018, only 140 were audited. This is close to 0%.
The IRS audit numbers were a little higher in the case of S corporations: 397, or 1%. In the late 2020, the IRS announced that it would be adding auditors to allow them to increase their auditing capacity. So far this has worked out at roughly 50% more audits than before.
Here are some important red flags that you should avoid tax audit and fulfill tax obligation:
1. Do not report you business loss
Do not report a net annual loss for any business… especially a small loss, says Steven Jon Kaplan, CEO of True Contrarian Investments, LLC. “It can trigger the IRS to sentence your company to an audit with all the resultant hassles.”
You know all those mistakes you’ve been making, like not reporting every cent of income or misreporting some transactions? Well, if the IRS picks up on that net business loss and sees that something is a miss, it’s practically begging to be audited. So cut expenses where you can and make sure everything is reported on time.
2. Monitor and be exact about your expenses
Failing to list specific expenses can lead to a strange year-end summation of what you’ve spent your money on. This can make it difficult for people reviewing your budget to understand where all the money went.
Whenever you have the choice to include an expense in a general category or list it under ‘Other Expenses,’ always pick listing it explicitly.
It might not be wise to lump miscellaneous expenses, such as advertising or travel, together into an unidentified pool and deduct them from your taxes. The IRS might jump to conclusions and think you are trying to make an invented expense.
3. Provided the necessary important detail when needed
Don’t assume the person checking your expense report will understand the ins and outs of your business. Instead, provide a clear overview at the beginning of the report, with key takeaways in bullet points.
If you’re wondering why your company’s travel expenses suddenly dropped by 100% or advertising expenses doubled or tripled in a year, an independent auditor can investigate and provide you with meaningful feedback.
To make it easier, you’ll want to complete the necessary forms and attach them to your return when you file. This way auditor can better understand what happened.
This can help you save a lot of time when a return comes in, whether it has triggered or not. If it’s triggered and is waiting for a reply from the human handler, you’ve already answered many potential questions they might have asked.
4. All paperwork should be done on time
The IRS has a history of auditing late filers, even when they have applied for an extension. Terrigino says that the IRS will, in most cases, not audit late filers who have shown that they have made a reasonable effort to file on time.
According to experts like the IRS, one of the best ways to avoid penalties and interest is by paying your taxes on time. So don’t forget to file on time, pay on time and include any one other type of tax return in order to build a good record against which you can measure compliance.
5. Cross check all your paperwork
The IRS has a slim chance to audit you, but it does happen so pay keen attention to all tax forms, like 1099-INT and 1099-DIV. Be sure the numbers match on both your tax return and in these forms. It’s important your math is accurate!
6. Do not take lot of deductions
Getting charitable deductions right can make a huge difference. For example, not overestimating the size of your donation, not taking too much in home office deductions and not deducting too much for food and travel which can actually even negate what you’re getting back in tax benefits.
It’s best not to divert too much attention from other aspects of your finances and take care with what types of deductions you list. You don’t want to end up drawing anyone’s attention when they shouldn’t be there.
7. Don’t use same figure amount for deduction
Terrigino says, “In the end, you will want to decide what is appropriate for your company. Maybe one type of expense should be agreed upon for tax deductions.
Unclaimed expenses may be missing from your company’s books. Expenses can often get overlooked and written off as unimportant which could lead to a discrepancy in your books.
Expenses are likely to change so if yours have not, that could be a signal that something might be wrong.
8. Use of schedule C
“To avoid paying part of your Medicare tax, and to reduce the odds of an audit, always report small business earnings using Schedule C,” says Kaplan.
If you’re self-employed and have any earnings from a small business, it’s important to report them on Schedule C. This will be your tax form for business and can help you avoid paying part of your Medicare tax, and reduce the odds of being audited.
9. Don’t leave any blank question column
The answer must be provided on every line even if that answer is $0. Do not leave any lines blank or it will receive an extra level of scrutiny from the IRS.
Audits are a necessary part of the tax process, but they’re generally rare. However, some people are more likely to get audited than others. The IRS audits in less percentage of business returns and individual returns with incomes under $5 million.
When it comes to your financials, the last thing you want is for the IRS to get suspicious and start investigating. As long as there’s no reason for them to do so, they’ll let you be – but if something looks off, you’ll have a lot of explaining to do.