Short on personnel and funding, the IRS audits less than 1% of all individual tax returns annually. We expect the audit rate to fall even lower as resources continue to shrink and even more employees are reassigned to identity theft cases. So the odds are pretty low that your return will be picked for review. And, of course, the only reason filers should worry about an audit is if they are fudging on their taxes.
That said, your chances of being audited or otherwise hearing from the IRS increase with key factors, including your income level, the types of deductions or losses you claim, how you make your money and whether you own foreign assets. Math errors may draw IRS inquiry, but they will rarely lead to a full-blown exam. Although there’s no sure way to avoid an IRS audit, these three red flags could increase your chances of unwanted attention from the IRS.
Making Too Much Money
Although the overall individual audit rate is only about one in 100, the odds increase dramatically as your income goes up. Recent IRS statistics show that people with incomes of $200,000 or higher had an audit rate of 3.26%, or one out of every 30 returns. Report $1 million or more of income? There’s a one-innine chance your return will be audited. We’re not saying you should try to make less money—everyone wants to be a millionaire. Just understand that the more income shown on your return, the more likely it is that you’ll be hearing from the IRS.
Failing to Report All Taxable Income
The IRS gets copies of all 1099s and W-2s you receive, so make sure you report this income. IRS computers are pretty good at matching the numbers on the forms with the income shown on your return. A mismatch sends up a red flag and causes the IRS computers to spit out a bill. If you receive a 1099 showing income that isn’t yours or listing incorrect income, get the issuer to file a correct form with the IRS.
Taking Large Charitable Deductions
We all know that charitable contributions are a great write-off and help you feel all warm and fuzzy inside. However, if your charitable deductions are disproportionately large compared with your income, it raises a red flag. That’s because the IRS knows what the average charitable donation is for folks at your income level. Also, if you don’t get an appraisal for donations of valuable property, or if you fail to file Form 8283 for noncash donations over $500, you become an even bigger audit target. And if you’ve donated a conservation or façade easement to a charity, chances are good that you’ll hear from the IRS. Be sure to properly document everything.