Those who earn more than $200,000 per year are at a greater and growing risk of audit.
If you’re a taxpayer, there’s a good chance that this time of year brings a fair amount of anxiety.
Many people worry about being audited, while others worry that they’ve either paid too much to the government or too little, but the truth is that if you are reasonable and responsible in the way you approach your tax return, there’s a very good chance that it will all work out fine.
Statistically speaking, each year there are fewer than one in one hundred people subjected to IRS audits, but those who earn more than $200,000 per year are at a greater and growing risk.
There are some things that make it far more likely that you will be audited – these include paying far more than you are supposed to and making any of the following common mistakes on your tax return.
1) Failing to report all of your income
For some people, filing tax returns is easier than for others. If you are what as known as a W-2 employee whose company takes care of withholding taxes for you – and that’s your only job – then things are fairly straightforward.
Your W-2 will accurately reflect your income and the information can be transferred directly onto your tax return. But for those who have additional sources of income, such as an additional job or dividends on investments, things become a bit more complex.
Though you should receive a 1099 for any payments that you receive, this is not always the case – but you are still reported to report those earnings. Failure to do will mean underpaying the government, and can put you at risk of an audit.
Your tax return should list all income that you bring in during the year. If, after filing, you receive a 1099 for income that you did not know you’d earned, remember that the government is receiving a copy of that 1099 too - it is important to file an amended return for both state and federal taxes.
Failing to use form 1040X to amend your return when you learn of a significant underpayment can lead to having to pay both interest and penalties on the amount that you owe.
The Internal Revenue Service’s rules are vague regarding when these penalties will be imposed, referring only to “substantial understatement of tax” rather than providing a specific number for when an amendment is required. Because of this, some people decide not to amend.
2) Selling stock without reporting it
The Internal Revenue Service requires that all sales of stock be reported to them. The only exception to this is for stocks that are held in retirement accounts. Whether you keep the proceeds of a stock sale or reinvest in another stock, you need to file the appropriate paperwork.
Because all such sales are reported to the IRS by the institutions involved, failure to do so will lead to tax notices being issued.
The government treats all stock sales as if they represent a short-term capital gain, and therefore are deserving of taxation at the taxpayer’s current income tax rate. The only way to avoid being taxed in this way is to submit appropriate paperwork proving otherwise.
For sales of stock that have been held for over a year, any gain is considered long term, and therefore is treated in a more tax-advantaged way, but that means that you need for file a schedule D form with your 1040 tax return.
The IRS needs to know what the stock’s price was when you originally paid for the stock, as well as the price on the date that it was sold. Failure to provide the appropriate paperwork can result in penalties, interest, and having to pay back taxes.
3) Failure to take credits and deductions to which you’re entitled
Though most people worry about being accused of not having paid the government enough, a surprising number of taxpayers fail to take advantage of all of the credits and deductions to which they’re entitled. This is the same as handing the government a bonus check, and that’s a mistake you don’t want to make.
People who prepare their taxes for themselves are often unaware of many of the deductions and credits that they can take, and sometimes people who work from home are afraid of taking the home-office deduction.
This happens most frequently because people are afraid that calling attention to the fact that they’re working from home might make the IRS take a closer look and request an audit. The IRS understands that people work from home, and you are entitled to save money on your taxes by reporting its use accurately.
4) Taking credits and deductions to which you are not entitled
Where failure to take a credit or deduction is a mistake that means that you pay the government more than you need to, when you take a deduction or claim a credit that you are not entitled to, you put yourself at risk of not paying the government enough.
Beyond that, claiming a deduction for which you are not legally qualified means that you may face penalties, or be audited. Taking these deductions may be honest mistakes – one mistake that business owners frequently make is deducting expenses that are not allowable.
Doing this can jeopardize all of the expenses that you’ve claimed – even those to which you would have been entitled – and the agency does not have to audit your return in order to take those expenses away. It is very important that you exercise extreme care in claiming deductions, as incorrectly doing so can mean far more than owing back taxes:
You may also be subject to paying penalties and interest. Worst still, if the government suspects that you did this on purpose you may be vulnerable to even greater consequences. Should you realize after filing your return that you made this type of mistake, file an amended return immediately.
5) Filing beyond the deadline
If you wait to long to file your taxes, you automatically open yourself to penalties and fines, and the longer you wait, the higher the fees will go. Because of this, it is very important that you get your tax return in on time – even if you simply send in an extension, make sure that you do so in time for the deadline (April 18th this year) and submit at least a partial payment.
The fees for paying and filing taxes late is significant. For returns filed more than two months past the due date, the IRS will charge at least $205, or 100 percent of the tax liability, whichever is lower.
Not filing at all is likely to see a fine that goes up each month. It generally starts at 5 percent of the taxes due, but can go up to 25 percent, and this is true for filing late as well, though the IRS generally limits penalties to five percent per month when a taxpayer is both late and fails to submit payment.
You can have an impact on the penalties that you are required to pay by submitting whatever payment you are able to afford.
The penalties are based upon the amount that you owe, though submitting the paperwork is also important – simply filing, even if you can’t afford to submit the full payment, can significantly reduce the penalty you face.
Also, taxpayers who are able to provide compelling “reasonable cause” for their not having filed or paid on time may be able to avoid the failure-to-file or failure-to-pay penalties.
Filing for an extension on taxes can give you additional time to get your paperwork and documentation together, but that does not mean that you don’t have an obligation to pay the money – the IRS expects to receive your tax payment on April 18.
The best way to avoid paying too little in taxes or paying more than you need is to give yourself plenty of time. As soon as your tax documents arrive you should start to prepare.
Take time and make sure that you understand what you are permitted and what you are entitled do, and start filling out the forms with plenty of time to spare.
If things become overwhelming or you find yourself unable to figure things out, call our office for help at 727-345-7790.