Are You Guilty of This Common Tax Misconception?

A majority of tax-filers allow themselves to be fooled by this prevailing tax misconception. Are you one of them?

Feb 2, 2014 at 12:45PM

Tax time brings with it numerous ups and downs.

For many, doing their taxes is time consuming, can bring about numerous hours of headaches and receipt hunting, and is a constant reminder, frankly, of how taxing taxes can be in the first place. Yet for many of those who will gripe about their taxes this year, a majority of them will wind up getting money back. As we've looked at previously, more than 80% of those who file their taxes are owed a refund when all is said and done.

While I've certainly pointed out how giving a free loan to the U.S. government is one of the most common tax mistakes, there's perhaps an even greater tax misconception that's lurking out there that I come across on a nearly daily basis through various online financial news sources and from simply talking with financial-savvy friends. This misconception is a myth in every sense of the word, but I see it pop up, without fail, around this time of year.

Tax Form

Source: MoneyBlogNews, Flickr.

The greatest tax misconception of them all
The greatest tax misconception of all is the notion that you can audit-proof your tax return.

It doesn't matter whether you're a blue-collar or white-collar worker, or if you own an island or rent a studio apartment -- you have at least some chance of being audited by the Internal Revenue Service. This doesn't mean there aren't income brackets that have a higher propensity to attract audits than others, but there is no such thing as audit-proofing your tax return. Period!

In 2012, according to data released by the IRS (link opens a lengthy PDF file) last year, the tax agency processed a whopping 237.3 million tax returns, including individual income tax returns that made up the bulk of filings, as well as individual estimated income taxes, S and C corporations, estate and trust income taxes, employment taxes, gift taxes, and many more. These returns generated $2.54 trillion in tax revenue, but based on IRS audits it should have generated $38.7 billion more in additional tax revenue -- and this was with an audit rate of just 1.03%!

There is truth in the idea that higher income levels do yield a higher rate of audits, and this thought process does make sense from an IRS standpoint in that it's more worthwhile to go after upper-income earners, since their errors could result in considerably more tax revenue collected.

However, another myth you can dispel is that lower-income tax filers aren't at risk of an audit. According to IRS data, 2.67% of individual tax filers claiming no adjusted-gross income in 2012 were audited, while 1.05% of people claiming earnings of less than $25,000 were audited -- both higher than the national average. In other words, this is more conclusive evidence that there is no such thing as an audit-proof tax return.

Relax! You can reduce your risk of an audit
But there is good news! While you can't audit-proof your return, you can certainly take a few key steps to reduce the likelihood of being audited.

Nothing is more crucial to reducing your chance of an audit than being honest on your tax return. Being honest is likely to result in tax figures that don't raise the eyebrows of auditors (such as an overwhelming amount of deductions relative to your claimed income, or understating your investment or business income), and it will also make your life easier were you to be audited.

Income Tax Dice

Source: Alan Cleaver, Flickr.

One particular deduction that the IRS tends to keep its eyes on it's the Earned Income Tax Credit, which is a refund doled out to lower-income working citizens. In an average year, the IRS will divvy out $55 billion in EITC refunds, but somewhere in the neighborhood of $11 billion of those loans are considered to be fraudulent, at least according to research conducted by Sen. Tom Coburn (R-Okla.) in his annual Wastebook report. While this number is extraordinarily high, and Sen. Coburn would insinuate that the IRS is doing little to reduce EITC fraud, taxpayers would be wise to double-check whether they qualify for this refund.

Home office deductions are another big sticking point for those of you who are considered to be self-employed. Small-business owners have far more flexibility when it comes to fudging their deductions and failing to report business income than individual tax filers because their pay stubs aren't reported to the government on a weekly, bi-weekly, or monthly basis. Therefore, those who are self-employed should be smart about what sort of deductions they're claiming and should ensure they have the documentation to back up those deductions.

Finally, an easy way to reduce your chance of an audit is to e-file and use tax-prepping software. The error rate of filing your taxes on paper versus e-filing is approximately 40 times higher. In addition, tax preparation software has been designed by tax professionals to cover all your bases and will automatically check your returns for accuracy, as well as audit risk. Plus, there's virtually no chance of an incomplete or illegible form if you e-file as opposed to filling out your tax return by hand.

This is probably the smartest thing you can do to reduce your taxes this year!
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Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.

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4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

Admitting fear is difficult.

So you can imagine how shocked I was to find out Warren Buffett recently told a select number of investors about the cutting-edge technology that's keeping him awake at night.

This past May, The Motley Fool sent 8 of its best stock analysts to Omaha, Nebraska to attend the Berkshire Hathaway annual shareholder meeting. CEO Warren Buffett and Vice Chairman Charlie Munger fielded questions for nearly 6 hours.
The catch was: Attendees weren't allowed to record any of it. No audio. No video. 

Our team of analysts wrote down every single word Buffett and Munger uttered. Over 16,000 words. But only two words stood out to me as I read the detailed transcript of the event: "Real threat."

That's how Buffett responded when asked about this emerging market that is already expected to be worth more than $2 trillion in the U.S. alone. Google has already put some of its best engineers behind the technology powering this trend. 

The amazing thing is, while Buffett may be nervous, the rest of us can invest in this new industry BEFORE the old money realizes what hit them.

KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

Even one legendary MIT professor had to recant his position that the technology was "beyond the capability of computer science." (He recently confessed to The Wall Street Journal that he's now a believer and amazed "how quickly this technology caught on.")

Yet according to one J.D. Power and Associates survey, only 1 in 5 Americans are even interested in this technology, much less ready to invest in it. Needless to say, you haven't missed your window of opportunity. 

Think about how many amazing technologies you've watched soar to new heights while you kick yourself thinking, "I knew about that technology before everyone was talking about it, but I just sat on my hands." 

Don't let that happen again. This time, it should be your family telling you, "I can't believe you knew about and invested in that technology so early on."

That's why I hope you take just a few minutes to access the exclusive research our team of analysts has put together on this industry and the one stock positioned to capitalize on this major shift.

Click here to learn about this incredible technology before Buffett stops being scared and starts buying!

David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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