IGNORANCE ISN’T BLISS when it comes to the U.S. tax code.
Failing to fill out your tax return correctly, even if you make an honest mistake, isn’t going to earn you immediate forgiveness from the Internal Revenue Service. “When you sign your tax return, you’re signing it (to say) that everything is accurate and true,” says Mark Jaeger, director of tax development at tax software company TaxAct. If you don’t keep appropriate records, neglect to report income or claim unearned deductions, it could land you with penalties, interest payments and even a court date.
While a good tax software program or tax preparer should steer you in the right direction on your taxes, they’re only as accurate as the information you input. To limit backlash from the IRS, taxpayers should avoid fudging numbers and keep good records. Here are five illegal tax moves to avoid:
- Deducting personal purchases as business expenses.
- Claiming your pet as a dependent.
- Not reporting all your income.
- Claiming tax credits for which you don’t qualify.
- Ignoring current tax law.
Deducting Personal Purchases as Business Expenses
This is an area ripe for number-fudging, experts say. An eligible business expense must be incurred in current tax year, not reimbursed by an employer and be both “ordinary and necessary,” according to the IRS. It also can’t be a “personal expense,” or a fee incurred outside of your business, for living or for family.
Filers can get creative or stretch logic to make an expense appear like a qualified business expense, experts say. Lawrence Pon, a tax specialist who owns an accounting firm in San Francisco, says he’s seen filers try to claim home remodels as business expenses. But if your expenses don’t qualify, it’s not worth taking the risk.
Sometimes understanding what qualifies as a business expense is confusing. Take professional clothing, for example, which filers may want to deduct if it’s a substantial line item in their budget. You can’t typically deduct fancy suits and watches, even if you need them to attend high-powered meetings and television interviews, Pon says. But you can often deduct uniforms, costumes and specialized clothing not wearable in your everyday life. “You have to use some common sense,” Pon says.
If you claim business expenses on your tax return, it’s worthwhile to know the law – or go to a tax preparer who does – and keep receipts for everything.
Claiming Your Pet as a Dependent
Fluffy may feel like a member of the family, but that doesn’t mean you can claim your pet as a dependent on your taxes, TaxAct’s Jaeger says. While claiming eligible children or relatives as dependents can lower your tax bill, there are strict requirements about who qualifies. Cats, dogs and other pets won’t make the cut.
The IRS should be able to catch this kind of illegal tax move, Jaeger says, since your pet doesn’t have a valid Social Security number or other necessary documentation.
Not Reporting All Your Income
Being honest about the income you received throughout the year is essential on your tax return. “Since the beginning of time, when the tax code was written, basically Congress says all income is taxable,” Pon says. “That’s basically (tax) code Section 1, unless Congress gives us some exemption.”
With cash use becoming more rare, it’s harder these days to pocket tips, cash payments and under-the-table salaries, experts say. But if you are paid for a job at a trade show or for a service you provide, neglecting to report it could land you in hot water. The IRS could ferret out this fraud when you spend more than you earn or if the payer reported the payment but you didn’t. Or you could run into big problems later if you try to deposit large amounts of cash into a bank, says Mike Piershale, president of Piershale Financial Group in Crystal Lake, Illinois.
Claiming Tax Credits for Which You Don’t Qualify
Attempting to claim a credit, such as the earned income tax credit, electric vehicle tax credit, American opportunity tax credit or any other credit for which you don’t qualify can be tempting for fraudsters, especially since refundable credits can land as a tax refund in your bank account.
The IRS may catch you in this lie when you fail to provide valid supporting information, such as a vehicle identification number or information from an educational institution’s 1098-T form, Pon says.
Ignoring Current Tax Law
Yes, this tax year includes major tax reform. And while it may be confusing, you still need to be operating with this year’s tax rules in mind. For example, while you may have been able to deduct moving expenses last year, the Tax Cuts and Jobs Act has restricted that benefit to qualified military personnel. The new tax law also limits those who can claim property and casualty losses to taxpayers in presidentially declared disaster zones.
Again, good software and good tax planners should help you navigate the law with the correct prompts, but you’ll need to bring accurate information to the table. Don’t forget that your state may have different rules than the federal system. For example, while you may not qualify to deduct moving expenses on the federal form, you might be eligible on the state form, depending your state’s tax laws, Jaeger says.
Know What To Do If You Make a Mistake
If you make an error on your tax return, don’t panic. “You can always file an amended return to mend the error,” Pon says. You’ll generally pay additional tax and interest but may not be charged a penalty. If you fail to report it voluntarily and are caught, “you might get hit with a penalty,” Pon says. The penalty for a mistake is typically 20 percent of unpaid tax on top of other fees. If the error is due to fraudulent behavior, it will be closer to 75 percent.