This is a decent read .. the links are useful too. Out of the millions of tax returns that are filed with the IRS each
year, a certain percentage are inevitably flagged and chosen to be
audited. In some cases, this is because the taxpayer filing the return
is already being investigated for tax fraud or other crimes, while other
returns are merely selected at random. The formula that the IRS uses to
flag returns for random audit, known as the Discriminant Function, is a
highly classified secret known only to a few. However, there are
several types of returns that the IRS tends to focus on in general.
Filers with returns that fall into one of these categories must accept
that there is a higher probability that they will be audited than other
taxpayers. Some of the types of returns that the IRS tends to scrutinize
more closely include: More from Investopedia: • • • Returns that Itemize Deductions Taxpayers
who include a Schedule A with their 1040 likely have a higher chance of
being audited than those who don't. This is because the additional
calculations invite a greater possibility of fraud or error by the
taxpayer. Self-Employed Taxpayers Taxpayers
who report income on Schedule C or E are prime targets of the IRS,
because of the number of expenses that can be claimed as deductions.
Those who report net losses for the year that reduce other taxable
income, such as salaries or investment income are especially vulnerable
to examination by the IRS. "Cash Cow" Businesses Many
businesses have traditionally operated largely on a cash basis, such as
laundry services, restaurants, casinos and gaming establishments and
other similar enterprises. A substantial percentage of these businesses
have traditionally underreported their income on their tax returns, due
to the difficulty of proving revenue that is received in cash from
thousands of separate transactions. For this reason, the mafia and other
organized crime syndicates have been heavily involved with these
industries for the past several decades. Of course, this has not escaped
the notice of the IRS, which has collaborated with various law
enforcement agencies who pursue these criminals. Small Businesses Even
businesses such as florists, hobby store owners, construction
contractors and other local enterprises are often scrutinized by the
IRS. This is because even honest business owners and partners often
don't understand the rules for correctly reporting their income and
expenses and therefore submit erroneous returns. This is particularly
true of those who are filing a business return for the first time, such
as the proprietor of a new company. Private Transactions Taxpayers
who engage in the sale of substantial pieces of real estate or hold
interests in oil and gas leases or other such investment property can
often realize enormous income and profits from individual buyers or
small companies. The IRS knows how easy it can be to underreport the
profits from these transactions, in some cases. The Bottom Line Remember
that if the IRS does flag your return for audit, it does not mean that
they suspect you of cheating. As mentioned previously, many returns are
selected at random, according to a formula. As long as you have not
cheated on your return, then you don't have to worry about what they
find. If there is an error, the IRS will notify you in writing of the
discrepancy and tell you how much more you owe. Of course, this process
can work both ways; it is possible that the IRS could state that you owe
less than you reported as well. Just make sure that you have all of the
documentation that you need to prove your deductions, such as copies of
receipts and bills. As long as you can supply what the IRS requests,
your audit should be a relatively quick and painless process. |
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