For many small business owners, the sound of the word “financial audit” can be terrifying. Here are some things to avoid if you want to reduce the likelihood you will be “red-flagged” by the IRS.
What to Avoid to Reduce Your Chances of a Financial Audit:
1. Not Reporting All of Your Income
Not reporting your income is possibly the easiest red flag to avoid, but it is often the most overlooked cause of the Internal Revenue Service conducting a financial audit of your business. Typically, as your income increases so will the likelihood of you being audited. The IRS is good at noticing if the numbers on your forms, such as your 1099s and your W-2s, do not match with the income that is shown on your tax return. In the case that you receive a 1099 that shows an income that isn’t yours, you can get the issuer of this form to file a correct form with the IRS.
2. Making More Money
According to IRS Statistics for 2016, people who have an income of over $200,000 or higher had an audit rate of 1.70 percent. Now, this does not mean that your business WILL be audited if you make more than $200,000, but that it is more likely that you might be audited.
3. Not Having Clear Lines Between Your Personal and Business Expenses
Typically, the IRS will look closely at excessive business tax deductions. If the deductions on your return are much larger than your income, then the IRS can call you in for a review of your account. 20% or more above what your income typically is might cause your tax return to be reviewed. The IRS can be very strict about mixing your personal and business expenses, so make sure that you take the time to separate your work expenses and your personal expenses.
4. Deducting Business Meals, Travel, and Entertainment
A write-off of an amount that seems too high to be a deduction of a business or a profession may set off some red flags for the IRS. IRS agents are always on the lookout for personal expenses (see red flag number 3), so in order for you to qualify for deductions of meals, travels, entertainment, etc., you have to keep very detailed records that document all the things that you and your client or business have been doing. Make sure that you keep track of every expense, the amount, the people, the place, the business purpose, and the nature of the discussion or meeting. Anything $75 or more must be documented as there is a higher chance that you may be audited.
5. Cash Transactions
Large reports of cash transactions can also cause the IRS to sound the alarm. Typically, any amount over $10,000 that involves banks or any suspicious-actions reports from banks or disclosures of foreign accounts. Be mindful of making large cash purchases or deposits because they are often considered a big red flag for the IRS and will more than likely result in your tax returns going under review. The IRS is also suspicious of activities that appear to avoid the currency transaction rules, such as depositing an amount of money that is slightly underneath $10,000 and then putting a similar amount into the bank a couple of days later.
Make sure that you double-check your documentation to avoid being audited and to avoid going under review by the IRS. These are just some of the red flags that the IRS can spot, so make sure that you keep your business expenses and your personal expenses separate from one another because that is possibly the biggest cause for alarm to the IRS.
Looking for assistance with your financial management? Let the experts at Tentho help. We can ensure your books are in order and reduce your chances of a financial audit. Schedule your free consultation to discover how we can help your business prepare for the future.