Is there really such a thing as an audit-proof tax return? Some way of preparing your tax return to guarantee that you won't be subject to an audit? Of course not -- but there are certainly to ways minimize your risk.
You don't want to thumb your nose at Uncle Sam, thinking that an audit won't happen to you. It just might, and if it does, you should be prepared. But what can you do to make your tax return less susceptible to the IRS' eagle eyes? Here are seven suggested strategies:
Be neat!
Consider preparing your tax return by computer. A neatly prepared, computer-generated return looks much better to the IRS staffer (called a "classifier") who will be deciding whether to audit your return. Virtually all reputable tax pros now complete their returns using computers, and there are a number of really good do-it-yourself computer programs for PCs and Macs alike. (I'm partial to TurboTax, from Motley Fool Inside Value pick Intuit (NASDAQ:INTU).) Some websites even allow you to securely complete your tax return from the comfort of your Web browser.
If you're unable to use a computer to prepare your return, at least print clearly and carefully. Don't decide to get your revenge on the IRS by preparing your return with a red crayon. A messy return -- cross-outs, sloppy handwriting, and smudges -- is like hanging a sign on your return that says, "Audit me!" It might also give the IRS the impression that you are careless and disorganized.
Remember that the IRS is stepping up its audit enforcement. The IRS believes that the taxpaying public has gotten an audit-free ride for years -- and now that ride is over. While it's still likely that you won't be audited, the odds have increased substantially.
Be accurate!
The only thing worse than a messy return is an incorrect one. By "correct," I mean that all of your numbers should add and subtract accurately. This is another reason to prepare your return by computer, since you don't need to worry about a computer program flubbing any of the math.
Remember that your tax return will be loaded into the IRS computers, and those computers will check your return for math errors. If they find that your return states that 2+2=5, they might also start wondering about some of your other numbers. Don't give them a chance. Make sure that you double-check your numbers before you mail your return.
Watch Schedule C!
Avoid filing an income tax return with a Schedule C (Profit or Loss for Business) that reports a net loss from a small-business venture. This is especially true when your main source of income comes from W-2 wages. IRS auditors go after these returns like politicians go after money. Why? In order for these business losses to stand up, you must pass both the "passive loss" and "hobby loss" rules. You aren't familiar with those rules? Neither are most taxpayers, and the IRS knows it.
Document deductions!
If you claim large deductions for unusual items, such as an earthquake, flood, or fire loss, attach documentary proof to the back of your tax return. Copies of repair receipts, canceled checks, insurance reports, and pictures are always a good idea. This won't stop the IRS computer from flagging your return, but the documents should catch the attention of the IRS classifier. If he or she thinks your documentation looks reasonable, you probably won't get audited.
Be square!
Whatever you do, don't use round numbers. For example, if you report $1,000 or $12,000 instead of $978 or $12,127, it's an indication that you are estimating things rather than keeping good records and reporting the actual correct amount.
File late!
Again, the IRS will tell you that filing an extension will neither increase nor decrease your chance of audit. But I'm not so sure. Many tax pros commonly tell clients with some possible audit exposure to file for an extension, usually all the way until the Oct. 15 deadline. You might also want to wait to get your return into the audit processing cycle. Obviously, you must file valid extensions, and this gambit certainly works best for those of you who aren't expecting a refund.
Live small!
Live in a low-audit area. I'm not kidding! Audit exposure is different from city to city and state to state. Did you know that Nevada taxpayers are audited four times more than people in Wisconsin? This doesn't necessarily mean that you should move to Oshkosh, but if you have several homes, travel extensively, or otherwise have some flexibility in selecting your tax-reporting address, consider selecting the one with the lowest average audit rate.
When he's not dealing with tax issues, Roy Lewis is a motivational speaker who lives in a trailer down by the river. He understands that The Motley Fool is all about investors writing for investors. You can take a look at the stocks he owns as long as you promise not to ask him which stock to buy. He'll be glad to help you compute your gain or loss when you finally sell a stock, though.
