How to avoid an IRS audit

Every year the tax code grows more complex, which can lead to a mistake-triggered IRS audit. Also, there are certain “red flag” actions that invite an IRS review of your tax filing.

Avoiding actions like the ones below can help you sidestep a tax audit. Here are several triggers that could spark action by the IRS.

Claiming business losses year after year: When you operate a business and file Schedule C, the IRS assumes you operate that business to make a profit. Claiming losses year after year without any profit raises a red flag with the IRS.

Failing to report income from Form 1099: Resist the temptation to underreport your income if you are self-employed or have a second job. The IRS receives the same 1099 forms that you do ”” and even if you didn”™t receive a Form 1099 when you think you should have, you can”™t be sure the IRS didn”™t either. If the IRS finds a mismatch, you will hear about it.

Early withdrawals from a retirement account: Generally, if you withdraw money from a retirement account before age 59½, you will need to pay a 10% penalty. You will also owe income tax on the amount withdrawn unless you qualify for an exception. Sometimes””but not always””these types of early withdrawals trigger an audit, typically a correspondence audit where the IRS sends you a letter.

Excessive business expense deductions: Too many deductions for your income and type of business, claiming 100% use of a car for business, and inflating business meals, travel, and entertainment expenses are examples of excessive business expenses that could raise a red flag. Always save receipts and document your mileage and expenses.

Failing to report winnings or claiming big gambling losses: Professional gamblers report winnings/losses on Schedule C, Profit or Loss from Business (Sole Proprietorship). They can also deduct costs related to their professions, such as lodging and meals. Gambling winnings are reported on Form W-2G, which is sent to the IRS.

As such, you must report this income. You may deduct gambling losses, but you must itemize your deductions on Schedule A (Form 1040) and keep a record of your winnings and losses. Ordinary taxpayers (recreational gamblers) report income/losses as “Other Income” on Schedule 1 of their Form 1040 tax return.

If you”™ve received correspondence from the IRS in the U.S. mail that you are being audited, it is advisable to get help from an experienced tax professional. Also, it might help you to review the Taxpayer Bill of Rights, which can be found at IRS.gov.

Norman G. Grill is managing partner of Grill & Partners LLC, certified public accountants and consultants to closely held companies and high-net-worth individuals, with offices in Fairfield and Darien.