RED FLAGS CAN INCREASE INDIVIDUAL AUDIT RISK

Red Flag Audit

Last year’s individual audit rate was 0.59%…one in every 170 returns filed on the 1040.

But this figure doesn’t tell the full story. Lots of red flags can increase your audit risk. Some are identified by the agency’s computer formulas for selecting individual returns for exam, while others are included in issue-focused compliance campaigns by IRS’s Large Business and International Division. This second group consists of narrower risk areas in which IRS finds taxpayer compliance to be lacking. We’ll delve into some common audit triggers.

Taking higher-than-average deductions. IRS may pull a return for audit if the deductions shown are disproportionately large, compared with reported income.

Writing off alimony. The rules on deducting alimony are complicated, and IRS knows that some filers who claim this write-off don’t meet the requirements, so it pulls suspicious returns for audit. Look for the agency to closely police this area even more to see whether taxpayers are complying with this change under tax reform: Alimony paid pursuant to post-2018 divorce or separation agreements isn’t deductible.

Claiming large charitable deductions. Agents are checking whether taxpayers have satisfied the various substantiation requirements, such as filing Form 8283 for noncash donations over $500 or getting an appraisal for highly valuable gifts. Contributions of façade or conservation easements are especially juicy IRS targets.

Running a small business.

Both higher-grossing sole proprietorships and smaller ones are on IRS radar, because auditors know from experience that some self-employeds claim excessive write-offs and don’t report all their income. Tempting targets include proprietors reporting at least $100,000 of gross receipts on Schedule C, as well as cash-intensive small firms. Big write-offs for meals, transportation and travel are ripe for exam. Also, on IRS’s radar are sole proprietors who claim 100% business use of a vehicle. And for post-2017 returns, it’s a sure bet that auditors will check that businesses aren’t deducting entertainment expenses.

Reporting substantial losses or little to no adjusted gross income. Taxpayers with multiple years of Schedule C losses who also have income from wages or other sources are a valuable audit target for agency examiners. The Revenue Service’s antennas go up even higher for people who attach schedule C with big losses from ventures that look like hobbies, or from real estate activities. Large losses reported on Schedule E or from asset dispositions get scrutiny, too.

Among the best of the rest: Foreign tax credits taken by individuals. Filers who take the health premium credit for insurance bought through an exchange or who claim the earned income credit. People who invest in or deal in virtual currency. S corporation shareholders who deduct losses in excess of their stock basis and loans that they make to the company. Owners of unreported overseas financial accounts. And U.S. citizens working abroad who claim the foreign earned income exclusion.

Paycheck Checkup

Paycheck Checkup

The Internal Revenue Service encourages taxpayers to look at their tax withholding now to take charge of their tax situation and avoid a surprise at tax time next year. Doing a paycheck checkup now using the IRS Withholding Calculator means taxpayers have the majority of the year to spread out any changes they make to their withholding. Continue reading “Paycheck Checkup”

5 PERSONAL TAX CHANGES

Personal Tax Changes

The Tax Cuts and Jobs Act enhances and creates numerous tax breaks for individual taxpayers, but repeals or scales back a slew of others.
Although the provisions for individuals are generally effective in 2018, most are scheduled to sunset after 2025. It’s going to take time to sort out all the details, but here are 5 key items on the agenda.

1.  Cash in on tax cut bonanza. The new law revamps the individual tax rate structure by reducing rates and expanding brackets for upper income taxpayers. Previously, the seven tax rates for individuals were 10%, 15%, 25%, 28%, 33%, 35% and 39.6%. Under the TCJA, the new rates are 10%, 12%, 22%, 24%, 32%, 35% and 37%.

In addition, the new tax law changes the Consumer Price Index used for inflation adjustments,
producing smaller inflation adjustments than before.

2.  Embrace the standard deduction. When you file your personal tax return, you have a choice between claiming the standard deduction and itemizing deductions. Now the new law almost doubles the standard deduction to $12,000 for single filers and $24,000 for joint filers on 2018 returns. It also preserves the additional standard deductions for the elderly and blind.

Due to the higher standard deduction and related changes, such as the elimination and cutbacks of certain itemized deductions, more upper-income taxpayers are likely to claim the standard deduction for 2018. The increase in the standard deduction is offset somewhat by the loss of personal and dependent deductions.

3.  Don’t take it personally. Previously, you could claim a personal exemption for yourself, your spouse (if married) and each of your qualified dependent children or qualifying relatives. Each exemption was scheduled to be $4,100 in 2018. Now the new law eliminates all personal exemptions, including those for dependent children and relatives.

In conjunction with this change, the personal exemption phaseout rule for higher income taxpayers is repealed.

4.  Keep it all in the family. The new law doubles the child tax credit for each qualifying child from $1,000 to $2,000. Of this amount $1,400 is “refundable” under a late amendment to the law. The Tax Cuts and Jobs Act also creates a new $500 credit for nonchild dependents.

Existing credits for adoption expenses and dependent care expenses are retained. The new nonchild dependent credit isn’t available if you claim the Child Tax Credit.

5.  Give ‘til it hurts. If you expect to itemize on your 2018 return, despite the aforementioned changes, you can still benefit from the deduction for charitable donations. Generally, this deduction remains intact, although the new law did make these modifications:

  Previously, the annual deduction for cash donations to public charities was limited to 50% of adjusted gross income. The Tax Cuts and Jobs Act increases this limit to 60% of adjusted gross income.

  The tax rule allowing donors to deduct 80% of the cost of donations paid to obtain the right to preferred seating at college athletic events is repealed.

  Substantiation requirements for cash gifts were relaxed if a charity provided the requisite information to the IRS. This exception no longer applies. When appropriate, continue donating appreciated property to maximize your deduction.