Four Common Triggers of IRS Audits for Small Businesses in Tulsa

A letter from the IRS is something you probably do not want to see in your mailbox. This is especially the case if it’s a tax audit notice. Although you can’t be sure the tax department will not audit your company, understanding the common red flags that the IRS looks for may ease your fears. Also, it can help to know that hiring a tax accountant in Tulsa from the get-go to handle your taxes will help you avoid IRS audits. Your accountant will eliminate your worries about such audits by ensuring proper documentation, recordkeeping, and filing.

The IRS conducts audits to make sure the company to be audited is not avoiding FICA and federal taxes. Entities that avoid such taxes usually over-report expenses, hide or underreport income, misclassify employees, or take ineligible deductions. Below are the common red flags that the IRS looks for:

Unreasonable Salary

If you own a S-corporation, paying anyone in your company an unreasonably high or low salary can trigger an IRS audit. Usually, paying too low salaries is meant to avoid payroll taxes. Any amount paid to you or your employees should be reasonable compensation. But this can be tricky since there are no particular dollar amount being imposed by the IRS when they assess the reasonableness of compensation. Rather, such calculation relies on the skill levels of an employee, your business size, and the kind of industry you belong to. Do market research to make sure you pay reasonable salaries.  A tax accountant can be your best ally in this regard.

Claiming Business Losses and Deductions

If you are like other business owners, you probably itemize deductions on your income tax returns, which include costs for overhead expenses, home office maintenance, company vehicle use and mileage, and travel costs. Such deductions are not a red flag; however, claiming too many of them can trigger a tax audit. 

Legitimate business expenses should be ordinary and necessary. Thus, these expenses should be accepted and common in your business or trade. Your accountant will make sure any deductions you take can be supported by solid documents before being claimed. This includes keeping receipts and documenting such expenses thoroughly. 

Moreover, business losses can trigger an audit. A net loss can be experienced for a certain tax year, particularly during difficult economic times or when your business is new. However, every five tax years, you cannot claim business losses more than twice. Otherwise, the tax department may question the legitimacy of your business. 

Employee Misclassification 

Misclassifying employees can trigger an IRS audit. If you only employ a few people; however, you have many independent contractors, the tax agency may want to look more into how you classify your employees and whether you are trying to avoid payroll taxes, labor costs, and workers’ compensation insurance. According to the IRS, independent contractors are those who have control over their schedule, the work they do, and the specific conditions under which they do the work.   

Your company can control just the outcome of the work done. If you must hire independent contractors to meet deadlines or work in a certain place, you could tread the line between employee and contractor. Employee misclassification is a costly mistake because you can be liable for fees, back payroll taxes, and penalties. So, before you hire someone, examine the IRS guidelines first. 

Business-level Problems

Largely cash businesses are at risk of audits. They include restaurants, bars, beauty salons, garden services, and street vendors.  Because cash transactions are more difficult to track than electronic ones, underreporting income at these businesses can be easier. So, if you regularly have cash transactions, document them thoroughly.