It’s that time of year again – time to start organizing your records for tax preparation. The good news is that there is little changed on the tax law front for 2016, so there are no new forms or other major changes to contend with. One exception is that several states, including Vermont, are requiring that you submit driver’s license information with your tax return if you are requesting a refund. This is in an effort to reduce tax refund fraud.
If you are like everyone else, you would like to avoid going through an income tax audit. They are time consuming and they can also be expensive. While it is true that the IRS is reducing the number of full-scope field audits they are doing, we are seeing a significant increase in the number of “line item” audits being performed. This is where the IRS requests additional information about one or line items on your tax return that are of interest. This could include asking you for more information on a large deduction, or withdrawals from a 529 Plan or Health Savings Account. The key to preparing yourself for these increasingly common inquires is to DOCUMENT DOCUMENT DOCUMENT. It is critical to be able to respond promptly to the IRS with complete documentation supporting any deduction or position that you are taking on your tax return. This means ensuring that you have completed your mileage logs, obtained charitable giving receipts, gathered your medical receipts, and any other source documents the IRS might require. If you can promptly and adequately respond to a line-item audit with full documentation, the IRS will generally issue a clearance letter and move on to the next taxpayer. If you are unable to produce documentation for the line item, you exposure yourself to a more thorough examination of your entire return.
The IRS is also continuing to improve their electronic matching capabilities. This is where they match the information you put on your tax return with that provided by another party. This includes matching the income you report that is shown on W-2s and 1099s with the information provided to the IRS by the issuing party (your employer, banks, brokerage firms, etc.). Each year the IRS becomes more proficient in this area. To avoid receiving an adjustment letter from the IRS, be certain to include everything on your return that is reported by another party, even if you need to adjust the amount elsewhere on your return.