Many people, particularly retirees, are often surprised when they get notified of a tax audit by the Internal Revenue Service. Being audited can be unnerving, especially when some seniors think they are immune. The reality is that the IRS can audit anyone if the IRS thinks that tax forms are not honestly reporting income, expenses, or deductions.
It is the goal of the IRS to audit tax returns within two years after being filed. The IRS says that sometimes it will audit taxes filed three years ago—and on occasion, up to six years.
Audits are often conducted through the mail. If mail is the chosen route, letters from the IRS will usually request more information about specific entries you made on your tax forms. Other tax audits involve in-person interviews.
There really is no ultimate time limit. If a notable question arises on a tax form, you may face an audit. The WaysandMeans agency reports that the IRS has begun to receive $80 billion and has started training up to 80,000 more agents in 2023. The vastly enlarged number of agents increases the chances of more people getting audited.
You can help avoid an IRS tax audit by avoiding doing several things. Here are some of those red flags that cause the IRS to give your tax forms closer scrutiny.
Most of the income you make will come from legal sources such as Social Security, retirement benefits, investments, bank interest, and work income. In most cases, you will receive a tax document from that source (W-2s and 1099s)—the IRS gets a copy, too. You also need to report all your winnings from gambling.
If you do not report it correctly or fail to report it at all, the IRS is apt to come knocking. Using a computer, it will compare the documents they received with the amount you reported. When there is a difference, you will likely need to account for the discrepancy.
When you are 73 or older, the IRS will look to see if you have taken out the correct amount of any required minimum distributions (RMDs). They also receive reports on your 401(k)s, IRAs, etc., and they will know if you did not. Fidelity says that failing to do so means that the IRS will take 50 percent of the amount you should have withdrawn. If you have a Roth IRA, however, you do not need to take RMDs out of that account.
Taxes may also be due on your RMDs. One way to avoid this is donating to a qualified charitable distribution (QCD). If you have enough money and do not need the RMD, a direct transfer to the organization will enable you to avoid any taxes.
From the time seniors first take Social Security until reaching their full retirement age set by the Social Security Administration (SSA), they are limited by how much income they can make. Anything over that limit, they will have a percentage of their Social Security benefits taxed at either 50 percent or 80 percent.
After you reach full retirement age, there is no limit how much you can make—and it will not affect your Social Security. You will need to pay taxes on all income—except that which is tax-exempt. TopTaxDefenders says that if you suddenly make $200,000 or more, you have a good chance of being audited. The IRS will want to know how you obtained the sudden increase in income.
Having a business of any kind gives seniors (and anyone else) the opportunity to have many deductions. The IRS will look at all your deductions to ensure that they are not unreasonable. Claiming too many, in proportion to your income, from that business is likely to lead to a tax audit.
Reporting business losses year after year will almost guarantee that you will get audited. If you have repeated annual losses, you can adjust your tax forms to avoid reporting all of them. Although businesses of any kind must report all income, there is no requirement that all expenses be listed.
When you report repeated losses, the IRS wonders why you continue to operate a failing business. They look to ensure that you are trying to make a profit from it. Cash-based businesses, such as restaurants, are watched closely to ensure that all income and tips are listed.
Claiming large deductions on your tax forms will get the attention of the IRS. They know—from similar businesses—what kind of deductions you can be expected to have. They will also compare them to your previous tax forms. When your deductions are abnormally large, it will produce a red flag.
Making charitable donations to qualified organizations is an excellent way to reduce taxes. The IRS allows you to make deductions based on the value of the goods donated, which may include anything from clothes to cars.
A common problem that may bring on an IRS audit occurs when donated items are given questionable value on your taxes. Taxpayers place their own value on the donations but too often report the value much higher than its actual value.
Investopedia says that the IRS recommends valuing donations between 1 percent and 30 percent of the purchase price. A “fair price” is strongly recommended—determined by what a reasonable buyer not under duress would pay for those items. Any item valued at more than $5,000 needs an appraisal.
If you owe back taxes to the IRS, there may be a solution. ElderLawAnswers reports that when you owe less than $50,000 in back taxes, you will usually be given up to five years to pay it.
When seniors cannot pay owed taxes because of too little income—such as having high rent and only living on Social Security—there is a status called currently not collectible (CNC). Tax auditors can be understanding in this situation.
Seniors can avoid IRS tax audits and IRS audit penalties by remembering that they want to see people—including seniors—report their taxes as honestly as possible. Although mistakes can be made on tax forms, be as honest and careful as possible. Using online tax software, an accountant, or a tax agency, will help ensure that your numbers are correct and that you get all the appropriate credits and deductions.
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