IRS Audit Hot Buttons
Surveys consistently show that one of the average Americans greatest fears is being audited by the dreaded IRS. So it stands to reason that you may want to know some of the hot buttons the IRS has that, if you push them could land you in an audit.
That said, recently it has been written that due to budget cuts at the federal level, the chances of being audited are at unprecedented lows. And honestly, anyone can be chosen at random to be audited, so no one is immune even if you don’t have one of these hot buttons going on for you.
But because there are certain things that really do increase your chances of an audit they are worthy of discussion. Here are a few of the more common ones:
Deducting Hobby Losses – If your primary income is from one source but you consistently deduct losses from another activity that rarely if ever has net income (even if that activity produces some revenue), all kinds of bells and whistles may go off at the IRS. The loss from an activity deemed a hobby, i.e., one not primarily motivated by a profit objective, is not deductible. Classic examples may include weekend cattle farmers, horse breeders, even antique booth vendors.
Larger than Average Itemized Deductions – The IRS annually compiles statistics showing the average amount of deductions taken at various income levels. Having deductions that substantially exceeds the averages may cause a look by the IRS, especially it seems in the area of charitable deductions. Properly substantiated, that shouldn’t be a problem for you, so if entitled take them.
Business Travel, Meal & Entertainment Deductions – Auditors seem to love to go after these because they are easy pickings. Too often the business purpose for these deductions is fuzzy at best, or the deductions are not substantiated with the records the law requires.
I once saw an audit where the taxpayer could produce NO records that met the standards. Every penny of these deductions was disallowed, even though the nature of the business suggested there should be a good bit of this kind of expense. Still, the IRS had the right to, and did disallow ALL of it going back several years, costing the taxpayers thousands.
Vehicle Business Use of 100% - This is a close cousin of the audit target just mentioned. Face it, it is a very rare occurrence that vehicle usage is really 100% total business, and the IRS knows it. Further, as with travel, meals and entertainment, certain records MUST be kept contemporaneously (meaning as you go) to prove the business usage. No (or poorly kept) records, no deduction. Agents everywhere salivate at the thought!
Having a Small Primarily Cash-Based Business – It is so easy for a business that deals mainly in cash to underreport its income that the IRS is more likely to take a good long look at such a business. Examples include salons, small restaurants and food vendors, car washes, etc.
Taking the Home Office Deduction – There has been some debate for years as to whether this deduction really does increase audit chances. My casual conversation with IRS agents suggests that it does. And that stands to reason to me; after all, the requirements to qualify are pretty stringent, and like some of the deductions discussed earlier, failure to meet them disqualifies the deduction entirely, actual business use notwithstanding.
These are just some of the issues they increase chances of being audited, albeit in my experience they are by far the most common ones.
Moral of the story? If you meet the requirements to the letter of the law and legitimately qualify to take any of these tax breaks, by all means avail yourself of them. However, just be aware that you are more likely to need to be able to truly back them up with proper intent and/or records.
Knowing that can give you the ammunition you need if you are the chosen one.
Lane Keeter, CPA is Office Managing Partner of the Heber Springs Office of EGP, PLLC, CPAs & Consultants
