Honest mistakes can happen, but anyone purposely exaggerating a few details or bending the rules in their financial favor could be looking at serious legal penalties — including tax evasion charges, fines and even a prison sentence. To prevent tax mistakes that could lead to trouble, Wolters Kluwer Tax & Accounting US identifies some common blunders that can cause turbulence if not caught before signing-off on your return.
“It doesn’t pay to guess if you’re unsure about anything on a tax return, but it does pay to check with a professional preparer or trusted resource to make sure you are completely accurate and not hoping for the best outcome,” said Mark Luscombe, JD, LLM, CPA and Principal Federal Tax Analyst for Wolters Kluwer Tax & Accounting US. “Not only can the IRS identify any mistakes, but it can also determine whether it was a minor oversight that can be easily corrected or a deliberate attempt to avoid paying taxes.”
Some highly-common tax return mistakes include:
- Failing to include or use correct Social Security numbers
- Claiming ineligible dependents — must meet legal definition of a dependent
- Failing to check liability on whether the alternative minimum tax applies.
___ Not paying taxes on unemployment, wages, tips or other income — Those receiving unemployment benefits are expected to pay taxes on all government financial support they receive. And those in the work force are expected to report all of their income, whether it comes in wages or tips. All investment income, including interest, dividends and capital gains, also needs to be reported and may be subject to different tax rules.
___ Not paying taxes on household help — Taxpayers who hire a nanny or other household workers are required to withhold and pay FICA taxes if cash wages totaled $1,900 or more in 2014. They also must report and pay the required employment taxes for domestic employees on Schedule H, Household Employment Taxes, with the tax amount then transferred to the appropriate line on their Form 1040 or 1040A.
___ Not reporting gifts given over $14,000 — When someone receives a gift, its value is excludable from their gross income, meaning it’s not taxable to them. However, if they later sell it at a gain or receive any other income from the gift, that amount is taxable. Taxpayers giving gifts in excess of $14,000 as a single filer or $28,000 as a split gift by joint filers have two options to satisfy their tax obligation: Pay taxes on the amount above the limit or apply it against their lifetime gift tax exemption ($5,340,000 for 2014, up from the $5,250,000 limit for 2013).
___ Not reporting premium assistance credit or penalty for failure to obtain health insurance — New requirements on tax returns always create problems and the new provisions of health care reform are likely to be no exception. Carefully calculate if you have received too much or too little premium assistance credit and report the correct amount on the return. Also report if you had minimum essential coverage, an exemption or the amount of any penalty due.
___ Inflating the value of charitable donations — The IRS expects people donating items to qualified charitable organizations to use fair market value in determining what each item is worth. For non-cash donations of more than $500, a written description of the donated property must also be furnished and non-cash donations of more than $5,000 must be appraised. Additionally, cash donations of any amount require proof, such as a cancelled check, credit card statement or receipt from the charity. And contributions of $250 or more also require a letter from the organization specifying the name of the donor, the amount given and the date received.
___ Exaggerating business expenses — The IRS pays close attention to fraudulent tax abuses such as inflating business expenses or attempting to write-off personal and family expenses under the guise of a home-based business, where deductions are clearly invalid or where a business doesn’t exist. For expenses to qualify as business deductions they must be ordinary and necessary expenses paid or incurred in carrying on a trade or business. Taxpayers must have proof to legitimize business deductions such as receipts.
Sole proprietorships may claim business expenses on Schedule C, Profit or Loss from Business. Partnerships and joint ventures generally report expenses on Form 1065 or 1065-B.
___ Under-withholding of taxes — Generally, income tax follows a pay-as-you-go approach, meaning taxpayers must pay taxes on income they earn during the year it’s earned. This is done through preparing a Form W-4 so an employer can withhold the correct amount or by paying estimated taxes on a quarterly basis. Under-withholding results in owing back taxes as well as a possible penalty, which is typically interest on the amount under-withheld.
___ Not paying taxes on income earned abroad or from offshore accounts — Taxpayers must report worldwide income, within and outside of the United States, on their tax returns — including income from foreign countries and applies even if Forms W-2, 1099 or their foreign equivalents were not received. They may also have to report foreign assets on Form 8938. Those who don’t report those foreign assets or all taxable income from overseas business transactions or offshore accounts could face civil and criminal penalties.
___ Not reporting income from gambling or illegal schemes — Form 1040, line 21 and Schedule A, line 28 on Form 1040 tax returns are intended for reporting various financial gains and losses. Whether you had a lucky night at the casino or financially benefited from an illegal transaction, such as a Ponzi scheme, embezzlement or other types of fraud, line 21 is the taxpayer’s opportunity to tell all. For those who choose not to report gambling winnings or ill-gotten gains, they could be facing income tax evasion charges down the road.
___ Not filing a tax return — Ever since the federal income tax began in 1913, there have been many legal challenges to the system that have fallen short. Most people are required to file a federal income tax return. Income thresholds for those who must file range based on age and filing status. For single filers under age 65 for 2014, returns must be filed if they earn $10,150; returns must be filed for married couples under age 65 filing jointly if their income is $20,300 or more. Not filing a tax return when required is considered income tax evasion with penalties including paying back taxes, interest, potential fines and possibly serving a prison sentence in the most serious cases.
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