The chance of an audit is usually fairly low – only about 1% – but you can increase your chances
of an audit if your tax return contains these red flags.

1. Hiding Income. Cash income, “missing income” are common in certain industries, including “very small sales-oriented” businesses. If your business “profile” fits an IRS watch list, you will have an increased chance for an audit.
2. High income. More than 8.5% of “high income” taxpayers are audited by the IRS, compared with less than 1% of all other 1040 returns.
3. Missing Income. Failure to report income for which you receive third-party paperwork (like a 1099) is the easiest way to get a letter from the IRS.
4. Mixing Business and Personal Expenses. Excessive expenses, or expenses that don’t look “real,” are audit flags. If you try to deduct personal expenses (particularly travel, entertainment and dining) you increase your chances for an audit.
5. High Deductions. If your deductions exceed the profile for your industry, the IRS will look more closely at your return.
6. Losing money for more than 3 out of 5 years. If you show a loss more than 3 out of 5 years, or more than 3 years in a row, the IRS will presume that your business is actually a hobby, and will deny your deductions. This is called the “Hobby Loss Rule.”
7. Home Office Deduction. You can deduct up to $1,500 ($5/square foot) for business use of your home. You must be able to prove that you have a dedicated office space (not just a corner of the kitchen table).
8. Business Use of Your Car. You can deduct mileage or expenses (not both) for the business use of your car. You must keep accurate records to prove your deduction.
9. Mistakes. Watch for careless errors – incorrect social security numbers, using a different name from one year to the next. The IRS uses computers to compare basic information and run math checks – if you have common errors on your return, it will be flagged for follow up and may result in an audit.
10. Underpayment of Estimated Taxes. As a sole-proprietor or small business, you may be required to make quarterly “estimated payments” of taxes. If you fail to make these payments (or miss a payment), the IRS will send you a letter and may flag your account for audit.