1. Do you believe that by merely claiming any of the 5 items submitted by Mr. Pappas, regardless of the amount, a taxpayer will automatically substantially increase his/her chances of an audit?
2. Would you ever recommend that a client not claim a legitimate and documented deduction because it would increase his/her chances of an audit?
Before responding, I should point out that both Mr. Flach and Mr. Pappas are more qualified to answer these questions, considering they have been in the professional far longer than I. (Mr. Flach has been preparing returns longer than I've been alive, which is impressive to say the least.)
So if anyone decides to stop here, that's really understandable.
On to the questions at hand...
(1) Yes, I do think that, by claiming one of these deductions, a taxpayer increases his/her chance of an audit. I hesitate to say whether the increase is "substantial," as I have limited knowledge of IRS enforcement statistics. (Learning more about them is on my to-do list.) These areas are more likely to have error or fraud, the IRS focuses its efforts on areas especially susceptible to error and fraud; ergo, returns with these items are statistically more likely to be examined.
(2) I am not likely to recommend that a client not claim a legitimate and documented deduction because it would increase his/her chances of an audit. Like Flach, "I do not believe that one should be scared off from claiming legitimate deductions for fear of being audited."
HOWEVER, I believe it's my responsibility to educate the client on the increased risk.
In a perfect world, honest taxpayers would not be subjected to the time, expense, and stress of an audit. They would claim just those expenses and credits to which they are legally entitled, avoid examination, and keep on being honest.
We all know the world isn't perfect, and that honest taxpayers will continue to be audited along with the cheats. And so taxpayers must address the question: If I claim this tax benefit, my risk of audit will increase -- Is the benefit work the risk?
I suppose we could create a risk/reward mathematical equation using IRS statistical audit data. (Hmmm... summer project? Anyone know where I could get good IRS stats?)
I suppose my risk/reward idea is similar to Mr. Pappas' suggested cost/benefit analysis: "What is the comparative value of the deduction? Taxpayers should weigh the benefit of the deduction against the costs (monetary and psychological) that would be involved should the deduction trigger an audit."
Analogy attempt
I'll wrap up this post with a feeble attempt at an analogy.
I'm going on road trip, and have identified the fastest, most efficient route. Partway into the journey, I hear on the radio that there is a roadblock checking for drugs on my route. I consider my options.
- Modify my route to avoid the road block, and lose time.
- Keep on the route, hope the line of cars isn't too backed up and that I'll get through it quickly.
- How much time would I lose by avoiding the roadblock?
- How much time would I lose if I got stuck at the roadblock?
- Would the police find drugs in my car?
So do I take the safe option and avoid the roadblock, and lose the benefits of a quicker trip?
Do I fail to claim legitimate Schedule C expenses, in the hope of decreasing the chance of IRS audit?
In my practice, I generally encourage clients to claim all legitimate deductions and credits, and inform them of the audit risk.
Nothing too exciting, but there you have my 2 cents.
Posts
Your attempt is not feeble. How can it be, it is an opinion.
ReplyDeleteWith 23 years in the tax prep arena, a damn good one.
I am confident that you'll maintain this opinion through the years. Or at least I hope so.
You have hit a topic right on the nose, one that is most important. As a tax professional, we are being paid well for our service. So is preparing the return the service? In part yes, but as a hole we are educating the taxpayer/client, that is our job. And after doing this for a while you'll come to realize educating someone in taxation is really difficult when the don't really care because they have you.
Anyway, Great post, I hope you keep it up.
ML-
ReplyDeleteThanks for the kind words and for providing your opinion on this topic.
In theory just about any 1040 is at risk for an audit to some degree. While I do not think the "IRS red flag" is a total "urban tax myth" I believe that the "redness" of the flag is greatly exaggerated.
The number of "average" tax returns chosed for audit is relatively small. Seems to me that your chance of being audited is less than 2 out of 100 (of course this increases as income climbs). So claiming employee business expenses, for example, will raise your chances maybe from 1.75% to 2.35% - still not a material risk.
I think the major effort should be given to educate clients on the need to keep good records for any deduction or credit being claimed and assisting them in accomplishing this. If you are audited and you have appropriate documentation there should, in most cases, be no problem.
Of course it all depends on the individual IRS auditor, but one can always choose to "go up the ladder". In my minimal audit experience (the audit rate of my clients is substantially below the national average - I have not had an office audit in years and I do over 300 1040s each year) I have found most IRS auditors to be relatively pleasant and reasonable and even cooperative.
An audit is not something to be avoided at all costs, it is something to be prepared for. With the assistance of your tax professional it can actually be quite painless.
If a taxpayer voluntarily chooses to omit a legitimate deduction he/she loses the tax benefit. If the return is chosen for review and the item is disallowed he/she loses the tax benefit and is no worse off than if they had not claimed the deduction in the first place. I think the risk/reward analysis comes in at this point - if the deduction is legitimate how far is the taxpayer willing to go to fight the audit findings.
TWTP
ML-
ReplyDeleteOn an unrelated matter - thanks for "turning me on" to some new tax bloggers via your tax blogroll. I thought I had seen them all.
Continuing education is not limited to classroon instruction. Even an "old dog" like me can sometimes learn "new tricks" from a younger practitioner.
I just have to be careful about whom I chose to debate in the future!
TWTP