I have always assumed that with an increase in income, especially business based income, increases your risk to an audit from the Internal Revenue Service. My thought process is that it just makes good business sense. Even if they found a W2 employee making $50,000 cheating on their taxes it doesn’t really matter because it would cost more in man hours to collect the money he owes (even with penalties).
I was excited to see a recent Wall Street Journal article titled, “Chances of an Audit Grow With Income” which actually backed up my assumptions,
At first glance, the answer appears simple: very low. The IRS has audited only about 1% of all individual income-tax returns in each of the past several years.
Last year, the IRS audited nearly 4% of those making between $500,000 and $1 million. It audited nearly 9% of those making $1 million to $5 million. For those making $5 million to $10 million, the audit rate was 18%. For those who made $10 million or more, the audit rate was more than 27%.
The article also says,
IRS officials are keenly interested in taxpayers who own their own businesses, file what is known as “Schedule D,” and deal in large amounts of cash.
The cash and owning your own business makes sense but what about a Schedule D? According to the IRS you use a Schedule D when,The sale or exchange of a capital asset not reported on another form or schedule.
- Gains from involuntary conversions (other than from casualty or theft) of capital assets not held for business or profit.
- Capital gain distributions not reported directly on Form 1040 (or effectively connected capital gain distributions not reported directly on Form 1040NR).
- Nonbusiness bad debts.
Bullet points 1 and 3 make sense, which I guess brings bullet point 2 in by default.