Your Odds of an Audit
Audit 2013: Your Odds of an Audit are Going Up
Worried about a tax audit? Now more than ever there is cause for concern. In large part because of the long recession, the Obama administration is in huge need of tax dollars to keep the government going. Thus, more Americans than ever may be subject to unwanted attention from the Internal Revenue Service this season as the government pumps billions of dollars into tax collection.
My name is John Ellsworth and I am a tax lawyer who specializes in the defense of personal and business tax audits. Every day I am on the firing line of the IRS and the taxpayer, helping people just like you prove their returns are accurate and truthful. Sometimes they are not so truthful and I help those people repair the damage they might have done too.
Here are some tax audit flags I have noticed in 2012 and the second half of 2011
More than 1.4 million Americans were audited last year, the most in a decade. Even more audits are expected as the fledgling administration plans to spend $8.2 billion in tax enforcement initiatives in 2011, a nearly 10% increase over last year.
Being meticulous with your tax return may seem obvious, but many people aren’t careful enough and I see that in my tax audit defense practice over and over. And with the IRS seeking to collect every penny it can this year, you could end up paying for even the smallest mistakes.
While the IRS doesn’t reveal its secret DIF formula for flagging returns, here are some tips to avoid popping up on the auditor’s radar.
Self-employed? Prove it’s legitimate
With a record-high jobless rate, many Americans have turned to self employment, making the IRS increasingly skeptical of the legitimacy of home-based businesses.
More people are trying to turn hobbies into businesses in order to bring in a little extra money, but this won’t fool the IRS. In order to prove that your business is legit, you need to keep consistent and accurate records of income and expenses, maintain a separate bank account for the business, register the business with the proper authorities and hire an attorney and a good tax accountant.
An activity is considered a for-profit business if the gross income for any three of the most recent five years exceeds the deductions taken for the activity. If the IRS determines that a business is not engaged in for-profit, you won’t be allowed to take deductions of more than the gross income from that activity.
High expenses of self-employed individuals will also provoke suspicion from the auditor, who will look closely at travel, entertainment and automobile expenses relative to an individual’s income.
Overseas bank accounts? ‘Fess up
As the government cracks down on offshore bank accounts, deposits abroad are likely to catch an auditor’s eye this year.
While the IRS will spend most of its resources going after people with the largest deposits, all taxpayers with foreign accounts should take precaution and comply with the rules in order to avoid huge penalties.
Foreign bank accounts have been all over the press lately — it’s definitely a big thing this year.
People need to make sure they indicate on their tax returns if they have one, and make sure they include any interest income from that bank account on their returns. If you’re required to file a U.S. tax return, you must report foreign bank deposits that exceed $10,000 at any point during the year on form 90-22.1.
Selling stocks? Careful With Your Cost Basis
Remember those stocks your grandmother gave you in 1987? If you sell them, you will need to track down the original purchase price, no matter how far back the transaction was. Reporting an unreasonable stock value on your return can easily trigger a double-take from the IRS.
Knowing the date a stock was purchased is crucial since it determines the cost basis — the cost of the original purchase including commissions and adjustments like stock splits — and ultimately tells the IRS how much profit you made when you sold it.
A lot of people, when they sell a stock, particularly if they aren’t regular traders or active investors, won’t know the basis of the stock. Maybe it was received as a gift or they bought it a long time ago, so they’ll make it up.
But think twice before guessing the original value. It’s important to determine the actual purchase price, whether it means verifying with your broker, hiring an accountant or calling up your Aunt Sally.
Making a donation? Get a receipt.
Declaring unusually large charitable donations as deductions on your tax returns is another danger zone — especially if the amount donated is high relative to your income.
The IRS seems to be stepping up its investigations of both cash and non-cash donations this year.
But determining the value of non-cash items such as artwork, cars, clothing and furniture can be difficult. For smaller items, you’ll need to assess the value yourself, usually based on resale value at the time of donation. For most items valued over $500, the IRS will require a qualified appraisal.
Make sure you have the receipt when taking a charitable deduction, and for any donation of more than $250, be sure to get a letter from that charitable organization.
High earner? Hire a Pro
Because high earners have more income and more deductions on their returns, such as businesses, second homes, stock transactions and charitable contributions, the chances of miscalculation or inflation are much greater. The more money a person makes, the more valuable those errors becomes to the IRS.
The IRS looks more closely at high earners because their financial lives are more complicated than those of lower earners. And such complications can often lead to mistakes — some intentional — that the IRS will take as an invitation to dig deeper.
Here at Ellsworth Law Group, LLC we estimate that those making more than $200,000 a year are 50% more likely to be audited than those making less.
And those chances increase with income. The IRS reported that audits of individuals earning more than $200,000 jumped 11% in 2009, and audits of those making more than $1 million surged nearly 30% last year from 2008.
Wealthy taxpayers should triple-check everything and be mindful of careless omissions and inaccurate numbers, especially when reporting items that the IRS receives copies of as well, such as dividends. Hiring an accountant can be a smart move. The more complicated a tax return, the more cost-effective hiring professional help becomes.
How do we win audits for our clients? Your entire tax audit case is handled by us – this is our secret.
With my CPAs we handle every aspect of a tax audit ourselves–you have no further contact with the IRS. Every phone call is made by us; every letter is drafted by us; every meeting or dealing with the government is done only by us. We believe there is no such thing as a routine tax audit, or call or letter to the government. They all mean something and nothing should be overlooked or taken for granted. There are no salesmen or unqualified assistants working on your confidential tax audit case at any time. When it’s all said and done, it is our tax lawyer and CPAs opinion and expertise that will be presented to the IRS and Tax Court judges. Please compare this level of tax audit service and applied expertise to that offered by others. You will be amazed at what a difference this extra protection and care can make in the outcome of your tax audit. Our typical clients are individuals, small businesses and professional people, and small-cap corporations who require the assistance of outside counsel at some time during their tax audit. They are looking for serious tax audit help and they soon find Ellsworth Law Group has their IRS audit answers. We are tax audit lawyers and CPAs with 75 years of experience. Our tax audit law practice extends across the United States. Each year we take tax audit cases from all states and overseas. We also practice defense of criminal tax cases. We try cases in U.S. Tax Court and U.S. District Court. All comments and postings are welcome and we will do what we can to respond in a timely way.