**Interviewer:** You recently completed your tax return, and after hearing your friends talk about their audit experiences, you can’t help but worry about getting audited yourself. What are some of the situations that often catch the IRS’s attention during audits?
**Expert:** After the tax filing deadline, the IRS selects certain taxpayers for audits. According to a 2023 report by the Transactional Records Access Clearinghouse at Syracuse University, the audit rate for the IRS in 2022 was 0.38%, which means that about 3.8 out of every 1,000 tax returns were audited. This figure is slightly lower than the 0.41% rate in 2021, but it still leaves many people anxious about receiving an audit notice from the IRS.
The IRS can initiate audits after the tax deadline, with the ability to look back as far as three years. If serious errors are found, they can even go back as much as six years.
Here are nine red flags that could increase your chances of being audited, as well as some preventive measures you can take:
**1. Failing to report all income:**
This is the number one reason for audits. When taxpayers receive W-2s and 1099 forms, the IRS also receives copies. If you don’t report income accurately, discrepancies can trigger an audit. According to California CPA Mitchell Freedman, the IRS often cross-checks data automatically. Missing any income reported on 1099s, W-2s, or K-1 forms can raise your audit risk. If you have multiple employers or change jobs during the year, make sure to report all income.
**2. Claiming the Home Office Deduction:**
This deduction can save you money, but only self-employed individuals or independent contractors qualify. You must regularly and exclusively use a portion of your home for business purposes, which doesn’t necessarily have to be a separate room but should be dedicated solely to that use. Once you meet the basic criteria, you can deduct expenses based on the size of your office, including portions of mortgage interest, rent, and utilities. Keep detailed records of these expenses. Alternatively, you can opt for a simplified deduction, which allows you to claim $5 per square foot of office space, up to a maximum of $1,500.
**3. Reporting business losses:**
The IRS is cautious of taxpayers establishing businesses solely for the sake of deducting expenses. Reporting ongoing business losses can raise flags. While it’s understandable to incur losses when starting a new business, consistently failing to turn a profit can draw scrutiny. Taxpayers must document their intent to profit, maintaining detailed records of expenses and business plans.
**4. Claiming unusually high expenses:**
The IRS compares deductions across similar income levels and business types, so claiming excessive expenses may catch their attention. To prepare for an audit, keep detailed records of deducted expenses for at least three years, or six years if you have various income sources. Freedman notes that another red flag is claiming that a vehicle is 100% for business use; it’s crucial to keep mileage logs to substantiate the business use percentage.
**5. Not reporting all stock trades:**
If you sell stocks, you must report the earnings unless the trades occur within a tax-deferred retirement account. Brokerage firms typically issue 1099-B forms to both investors and the IRS, and all capital gains and losses should be reported on Schedule D. Gains from investments held for less than a year are taxed as ordinary income, while longer-held investments may qualify for lower capital gains rates.
**6. Ignoring digital asset questions:**
Since 2020, the IRS has been asking about virtual currency transactions on the front of the 1040 tax form. Taxpayers must respond to these questions; ignoring them can increase audit risk and slow down processing times. Like any other property, digital assets are subject to taxation, requiring you to report capital gains or losses from the sale of cryptocurrencies or other digital assets.
**7. Claiming large charitable donations or lacking documentation:**
For donations of at least $250 in cash or non-cash items when itemizing deductions, you must have written documentation from the charity at the time of filing. Additionally, non-cash donations exceeding $5,000 require a qualified appraisal. KPMG Private Enterprise’s national tax leader, Brad Sprong, explains that failing to provide documentation for non-cash charitable contributions could lead to an audit.
**8. Reporting unusually high or low income:**
Government data indicates that individuals with incomes under $25,000 or above $500,000 face higher audit rates. Those with unusually high or low income should be especially cautious when reporting, and it’s advisable to consult with a CPA or enrolled agent for professional assistance in case of an audit. Sprong mentions that inconsistent income from year to year also increases audit risk.
**9. Providing inaccurate information:**
If expense amounts are rounded to the nearest whole number rather than reported precisely, the risk of audit increases. For example, inputting amounts that are close to $100 or $1,000 looks like an estimate and can raise suspicion. Timothy Stiles, head of KPMG tax exempt services, recommends that upon receiving an audit notice, gather records and provide a clear, concise explanation with documentation right away. Most audits are handled through correspondence; however, if a face-to-face meeting is necessary, it’s best to have a tax professional represent you.
