personal finance

Here's Why Your Tax Return May Be Flagged by the IRS

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  • While the chances of an audit are slim, there are several reasons why your return may get flagged, triggering an IRS notice, tax experts say.
  • Red flags may include excessive write-offs compared with income, unreported earnings, refundable tax credits and more.
  • “My best advice is that you’re only as good as your receipts,” said John Apisa, a CPA and partner at PKF O'Connor Davies LLP.

Tax season has kicked off, and the IRS has already warned filing mistakes may cause delays amid staffing shortages and a massive backlog.

While electronic filing offers the best chance for faster refunds, other moves may invite IRS scrutiny, according to tax experts. 

The IRS closed 452,515 individual audits during its fiscal 2020, about 0.29% of the roughly 157 million individual income tax returns filed, according to the agency.

"Some people play the audit lottery, meaning they'll do whatever they want, and know that the chances of getting caught are slim," said John Apisa, a CPA and partner at PKF O'Connor Davies LLP. "That's not a good philosophy to have, though."

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While there's typically a three-year statute of limitations for an IRS audit, with extensions in some cases, there's no time limit on how long the agency can pursue fraud or nonfilers. 

One of the first cues may be trying to claim too many credits or deductions compared with your income, tax experts say.

The IRS uses software with a numeric score for each return, with higher scores more likely to spark an audit, explained certified financial planner David Silversmith, a CPA and senior manager of PKF O'Connor Davies. 

The system estimates the appropriate range for each deduction or credit by income level, and if write-offs are outside that range, scores may increase, he said.  

For example, $90,000 of earnings with $60,000 in charitable deductions will alarm the system, said Apisa. 

You're also likely to get flagged if the submitted tax forms don't match your reported income, triggering an automated notice, said Preeti Shah, a certified financial planner and CPA at Enlight Financial in Hamilton, New Jersey.

For example, the IRS may receive your full-time wages on Form W-2, contract earnings on Form 1099-NEC or unemployment income on Form 1099-G. But you can avoid underreporting by double-checking forms with a free IRS transcript before filing.

Top red flags for an IRS audit  

  • Excessive write-offs compared with earnings
  • Unreported income
  • Refundable credits like the earned income tax credit 
  • Home office and auto deductions
  • Rounded numbers

Write-off red flags

While advance child tax credit or stimulus payment errors are likely to get flagged this season, other write-offs tend to be perennial issues. 

For example, the earned income tax credit, targeted at low- to middle-income families, is valuable because it's refundable, meaning you can still get a refund with zero taxes due, Silversmith said.   

"If you claim the earned income tax credit while self-employed, that is a big red flag," he said. "You need to have receipts for income, not just deductions."

Self-employed filers need to be careful when claiming write-offs for a home office or a vehicle because those must be exclusively for business purposes, which may be more difficult to prove.  

And you need to be precise when reporting credits and deductions.

"Round numbers are a tipoff that you're just making these numbers up," Shah said.

The burden of proof

"My best advice is that you're only as good as your receipts," said Apisa, because if the IRS wants evidence in 2½ years, you'll need to have those readily available. And you'll want to keep records for seven years. 

You don't have to be scared with the right paperwork to back up your returns, Shah added. If you receive notices and can provide proof, the IRS is generally "pretty reasonable."  

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