No two words are more likely to strike fear into the heart of any small business owner or self-employed worker than the words ‘tax audit’. Tax audits are famously one of the most stressful experiences you can go through and are both incredibly intrusive and incredibly scary. No matter how honest and thorough you know you have been with your tax returns, you would not be human if you did not start to get a little worried when they poured through your books checking that you have dotted all the ‘I’s and crossed all the ‘T’s. People who have been through it will tell you that the experience is best avoided. So how do you do that? Follow these tips:
Firstly, the main reason they will want to have a look at you is if they get a whiff that there might be unreported income floating around. The taxman will normally be particularly suspicious around returns based on industries traditionally associated with cash in hand. These might include the service industries such as bar work and waiting work, or those who work in hotels or the hotel industry. If you are in an industry that is considered at risk of abuse then you need to make sure your paperwork is rock solid and without discrepancies or they will be down on you like a ton of bricks.
The second thing that is likely to bring them knocking at your door is an incorrectly filled return. If you have made a mistake with your tax code, or a mistake with your calculations then they will take a second look at your file. One of the worst causes of this will be when people think it is easiest to round numbers up or down. This is a clear red flag to the taxman that the figures are not entirely accurate.
If your income goes up or down dramatically they will also take note. If there is any significant fluctuation in income the taxman always will work on the assumption that somewhere along the line some income has not been reported – and that is the reason for the fluctuation.
If you seemingly earn too little they will also want to have a word. Any income that appears to be too small to support the claimant’s lifestyle will be another red flag. Say you declare stuff like a large mortgage on a house or any other property tax, but then don’t have a tax return that would be able to cover the payments, then clearly they are going to want to talk to you.
Next, don’t be in a rush to be too charitable! Or at least, if you make large donations to charity and then claim them back in tax deductions they will want to check all of your figures and see paperwork to prove you made those donations. Anything above the average charitable donations of 2-5% will necessitate a second look.
Finally, the one that most people get wrong – business expenses. Make certain they are all business related. And that means within reason. If you are putting regular trips to Candy’s House of Pain on your entertaining expense account they are going to get suspicious. The occasional dinner or drinks to schmooze the clients is one thing. Living it up on the taxman is another.
Esther is a personal finance expert and blogger. She writes regularly about all things financial, from mortgages to payday loans and from umbrella companies to contractor tax.