What flags an IRS audit

PERSONAL FINANCE

Your Money

March 06, 2007|By EILEEN AMBROSE

Whew! You filed your tax return and now you can relax until next year. Maybe.

Some returns will be flagged for an IRS audit. Is yours one them?

Leo Bruette, a tax partner at BDO Seidman in Bethesda, says certain items can get you noticed by the IRS, although it doesn't necessary mean you'll be audited. Nevertheless, he says, "If you open the door for them to [look] at your return, there is a reasonable chance they will look at other things on the return."

Items likely to be eyeballed by the IRS:

Substantial personal expenses - such as accountant fees or unreimbursed job costs - that you write off under miscellaneous expense deductions.

Foreign bank accounts, including overseas brokerage accounts.

A mismatch between what the tax return says and what 1099 forms report about dividends, interest and investment proceeds. CPAs look carefully so returns and 1099s line up. "We watch this baby like a hawk," Bruette says.

Noncash charitable contributions, such as artwork, real estate or a classic car, that exceed $5,000 but aren't backed up with the required appraisal. Also, fat cash contributions that are out of whack with what you earn. The IRS is mum on what level of generosity would raise questions, Bruette says, but if you give away half your income "a reasonable person would have to say, `Hmmm, does that look OK?' "

Often if there is a discrepancy, the IRS will send out a letter about the problem and how much more tax you owe. You're given the chance to prove by letter that the IRS is wrong, Bruette says. "Don't panic. No. 2. Don't ignore it," he says.

More serious is when the IRS asks you to come into its office. Worse yet, Bruette says, is when the IRS wants to come to you.

In face-to-face meetings, Bruette says, make sure you have the documents to back up your claims.

House as piggy bank

In 2005, homeowners were living in houses worth a total of $19 trillion, or 196 percent higher than the decade before, according to Fidelity Research Institute. No wonder older workers see home equity as a possible source of retirement income.

But don't be in a rush to turn your house into a piggy bank, says Van Harlow, managing director of research for the institute, which is part of Fidelity Investments.

A recent study by the institute looked at tapping home equity for retirement. "None of the various alternatives for utilizing home equity is a clear winner. They are all trade-offs and personal preferences," he says.

You can't count on home values to always go up. The median price of new houses rose an average of 5.9 percent annually since 1963, but it wasn't always a smooth ride. Recessions and high interest rates in the 1980s and early 1990s pushed house prices down. Housing values in parts of the Baltimore region and elsewhere have fallen in the past year.

If that were to happen again right before retirement, workers counting on tapping home equity could find their plans falling apart, Harlow says.

Also, plans to sell the house and buy a smaller home or rent an apartment might not work out either. You might not be able to find a less expensive house to your liking in the same community. Or, rents might be high. Harlow says.

A reverse mortgage could be an option for those 62 and older. It lets you take out a loan against your house that you don't have to repay until you die, sell the house or no longer live there. Some experts see this as a last resort. The reverse mortgage industry is still relatively new and the loans can be costly, Harlow adds.

Questions? Comments? Write personal.finance@baltsun.com

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