Common Errors Seem in 1040 filing
May 18, 2017
Wrong Filing Status
You would be surprised how many times I discover people using wrong filing statuses. When couples are having marital problems but not yet legally separated, which filing status to use can be tricky. Many are incorrectly filed as single, or head of household; some choose to use married filed separately status but fail to take into account the community property rules and misreport income on each return. HOH (head of household) status has many tax advantages such as a better tax rate, larger standard deductions, etc. However, the rules can be complex to qualify for HOH filing status. In fact, this is one area that can trigger an IRS inquiry or audit.
Dependents errors such as someone else claiming the same person as a dependent; claiming parents who live overseas as the dependent; claiming parents who are not US citizens or residents; claiming a child who is over 19 and has earned income over a threshold but not full time in school, etc. are typical.
Failure to report income (or sales activity) that the IRS already knows you have
For each Form 1099 you receive, the IRS gets a copy. First of all, many 1099s are simply incorrect! They can be sent to the wrong address, so you never get it; can be $10,000 instead of $1,000; can use the wrong tax ID, etc. So it's important to watch your mail and review your 1099s. All 1099s need to be accounted for somewhere on your tax return even if there is no taxable income. Otherwise, you will likely get a letter from the IRS demanding the tax on that amount.
File on Paper When You Don't Have to
Some people argue that paper filing is better than e file. Why give the IRS electronic data that makes it easier to audit you? The truth is there is no information they get from an e-filed return that they can’t get from a paper filed the return. All paper-filed returns are guaranteed to have been looked at by a human being and keyed into their computer system. Who is better at discovering a red flag than a real human?Through e-file, many errors in the filing are eliminated such as wrong social security numbers, wrong names, filing status errors, math mistakes and also some errors in calculating tax credits/deductions.
Not reporting foreign financial account correctly
The IRS has been focusing on foreign account reporting compliance. The service considers foreign tax filings their top priority now. Any US persons with a financial interest (or authority) over foreign financial accounts that do not comply may be subject to civil penalties, criminal penalties, or both. But who is a “United States Person”? What is considered as "foreign bank, securities, or other financial accounts"? What is a “financial Interest in, or Signature or other authority” mean? The requirements are very confusing, and it’s a daunting task to report correctly.
Passive activity loss deduction error
A passive activity is any rental activity OR any business in which the taxpayer does not materially participate. Losses from passive activities can only be used to offset passive income. Real estate professionals may qualify for exemption from the passive activity rules. But are you really a real estate professional? The requirements to meet the eligibility are quite strict. Many DIY tax software just asks you a few simple questions. By ticking the wrong box, you might have made a massive mistake on your return without knowing it.
Qualified residence interest – NOT?!
Receiving Form 1098 does not mean the total amount of mortgage Interest can be deducted. In most cases, you can deduct all of your home mortgage interest. But not always. When your mortgage is too large (over 1.1 million), or you refinanced and cashed out significant amounts for personal use (over 100K), your interest deduction is limited. There are also many not so straightforward situations. For example: What about parents who buy a house for you but you pay the mortgage?
Un-reimbursed employee business expense deduction errors
Some people believe if they incur expenses related to their jobs that they should be able to deduct those expenses as miscellaneous itemized deductions on Sch A. This is not correct. A taxpayer is entitled to deduct un-reimbursed employee expenses only if he can demonstrate that the taxpayer could not have been reimbursed for such expenses by the taxpayer's employer. So you are not allowed to deduct those expense just because you forgot to turn in your expense report or you don't want to argue with your boss about the expenses.
Treating a hobby as a business
I have seen errors made where hobby activities are reported on Sch C. A business that has been operating at a loss for several years runs the risk of being challenged by the IRS and having their tax liability recalculated under hobby loss rules. Horse breeding surely is on the IRS' radar to audit. Multi-level direct selling businesses such as Amway, Avon also draw IRS's attention quite often.IRS argues that distributors were not motivated by profit in many cases. Many of distributors report loss year after year and big a portion of the sales are to made by self-using the products.
Large amounts of donations with no adequate supporting documents
Of course, you should claim deductions you actually deserve. But when certain deductions are much higher compared to other similar taxpayers, you do have a risk of being audited. To bulletproof your deduction for audit, keep good receipts, take photographs of the items and use a detailed itemized list along with your valuation method. The Salvation Army Valuation Guide can help you determine the value of the items donated. GoodWill Receipts Tracker is also a great tool that's perfect for tax time.
For more detailed information, please do not hesitate to contact us. Virtual CPA for You is a 100% paperless online accounting and tax service based in San Francisco, California. With technology, communicating can be faster and more secure than face-to-face meetings.
Circular 230:The articles are for general information only. In accordance with IRS Circular 230 they are not considered tax opinions for purposes of relying on such statements in any challenge of the reporting of the above transaction by the IRS. If a full tax opinion is required certain procedures must be met . Also there is a significant cost for a full tax opinion to meet the requirements of Circular 230.
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