Filing taxes is part of running a business, but getting audited by the IRS is sometimes also something a business has to deal with. There are certain red flags the IRS looks for to determine who gets audited. So it’s best to avoid those red flags when possible. In this episode of MissionBusinessPodcast.com, Bernard Roesch describes red flags the IRS looks for and how to avoid them in your business if possible.
If you have any questions about this podcast episode, please feel free to contact us.
How Does The IRS Determine Who Gets Audited
There’s a number of ways the IRS chooses who to audit. In some cases, the audit is completely random, selected by randomly choosing from all the businesses in the IRS system. While some audits are random, the majority are triggered based on patterns in the tax returns. Below are a few patterns that the IRS system looks for to determine who to audit.
Odd Looking Expenses
Businesses frequently have expenses but the amount or type of expenses businesses have are usually similar when you review tens of thousands of the same type of business operating in the same industry.
If your business has expenses that look odd to the IRS system compared to the many other similar types of businesses in their system, then that can trigger an audit.
Consistently Losing Money
Business is difficult and losing money sometimes happens. But many businesses claim losses on their tax returns to shield income and avoid paying taxes. The IRS looks for patterns of losing money, especially consistently over time.
How you pay yourself as a business owner determines how much taxes you pay. For example, depending on the structure of your business, you may pay taxes on your salary income as well as the income of the business.
- Businesses often use owner’s compensation levels as a way to control the amount of taxes they pay. If you pay yourself too little to avoid paying taxes on that salary income, then the IRS may audit you.
- The IRS looks for appropriate levels of owner’s compensation in your type of business and if yours seems to low, then this may trigger an audit.
- Similarly, if you pay yourself too much for certain reasons either as salary or distributions, then that could also trigger an IRS audit.
Work with your accountant to understand the appropriate level of owner’s compensation for your type of business, your role in the business and the size of your business.
Odd Looking Charitable Deductions
While giving to charities is the goal of many businesses, it’s also a common way that some business owners try to shield income from taxes.
The IRS looks for specific types of charity contributions and the level of contributions relative to your other business economics. These patters are usually simple for the IRS to spot since they have a large data set of business charitable contributions to analyze.
Mistakes On Your Return
While the above patterns are things the IRS looks for to find businesses intentionally trying to shield income, another pattern the IRS looks for is simple mistakes on your returns.
If your returns have mistakes that the system catches, it will usually trigger a human audit to review your return and figure out what should be done regarding the mistakes. This can lead to a simple correction with the IRS or a full scale audit since a human will now review multiple parts of your return.
We Can Help You
If you need help organizing your financial data and preparing for filing taxes at the end of the year, contact Bernard today. You can also visit MissionBusinessPodcast.com for more insights that Bernard has been sharing with us in the previous episodes.