- Most real estate agents are required to file quarterly taxes. Failing to do so will catch the IRS's attention.
- Excessive deductions are red flags, especially with a lower income level.
- Using tax and deduction software helps avoid mistakes that can lead to an audit.
Tax time is already upon us, and next season will be here before we know it.
A real estate agent’s tax return is complicated enough, so don’t let poor record-keeping or murky expenses make the end of winter harder than it already is.
Avoid these seven wrong turns when filing your taxes to steer clear of IRS accidents – and, more importantly, audits.
1. Failing to file quarterly taxes
If you were a teacher, police officer or employee of a business, your employer would probably withhold federal, state, local and Social Security and Medicare (FICA) taxes from each paycheck.
But as an entrepreneur, it’s your responsibility to set aside portions of income to pay those taxes every quarter. These are called estimated taxes, or quarterly taxes, and they apply to income from business ownership earnings, interest, rent, dividends and the self-employed.
If your tax liability is $1,000 or more for the year, then you’re probably on the hook for quarterly taxes – though there are special rules for high earners and other employers. Underpaying quarterly taxes, failure to pay them or sending late payments can result in IRS penalties, fines and additional interest. It can also create an audit bullseye.
Use the IRS’s 1040 ES form to calculate how much you should withhold and pay each quarter.
2. Excessive deductions
The IRS has seen almost every trick in and out of the book, so trying to minimize earnings and maximize deductions isn’t anything new. Deducting expenses unnecessary for your business – like furnishing your home basement or taking friends to concerts – could catch the IRS’s attention. Be diligent and only expense what is reasonably (and lawfully) used for your business. The IRS approves certain types of expense management software that can help you manage these deductions.
It’s also important to stay current on IRS deduction codes, like the $25 limit for business gifts or 50 percent limit on deducting meals and entertainment.
3. Income level and deduction amount don’t match
A long list of deductions with too little income is a quick way to get on the IRS radar. A 2014 IRS report showed tax returns reporting no adjusted gross income were audited nearly seven times more than the average.
If the IRS notices a questionable pattern, it will investigate to see if deductions were inflated to avoid taxable income. Don’t attempt any deductions that can’t be backed up with receipts. Capturing receipts on phone apps like QuickBooks Self-Employed can keep you from losing record of your receipts and is an easy solution to accidentally inflating deductions.
Don’t exaggerate charitable deductions — and keep records of all receipts for charitable contributions, as you would with any other business expense. There are limits on how much can be deducted based on adjusted gross income, so double check reported donations to make sure they don’t go over.
4. Making a lot of money
Audit rates are low, but a rising income increases the chances.
Incomes over $200,000 had twice the audit rate (1.75 percent) of the 0.85 percent national average in 2014, according to the IRS.
It’s important to keep meticulous financial records when you start making more money, so consider hiring a tax accountant or using small business software for records; then claim the allowable deductions for what you spend on them. You could also talk to a real estate attorney about going from a sole proprietorship to an LLC for tax and liability benefits.
5. Reckless mileage reporting
Deducting car expenses and mileage for business use is a common write-off, but it’s also a place for common mistakes.
The IRS standard mileage rate is the most popular method, using a fixed rate to account for variable costs like insurance, depreciation and repairs instead of tracking and deducting actual costs.
As of Jan. 1, 2017, the standard mileage rates are 53.5 cents per mile for business miles driven, down from 54 cents in 2016 and 57.5 cents in 2015.
Audits can begin with failure to track mileage or grossly overstating it as it relates to your adjusted income. If you earned $40,000 last year and reported driving 18,000 miles, and then earned $20,000 this year but reported driving 40,000 miles, the IRS is more likely to flag your deduction.
Just because you haven’t been tracking vehicle deductions doesn’t mean it’s too late to start, as IRS-compliant phone apps like QuickBooks Self-Employed have mileage tracking features.
6. Questionable home offices
Home office deductions are based on the percentage of your home used exclusively for work.
A dedicated work space may not be used for personal purposes, such as a family room or exercise space. If half of a room is used for business purposes, then only half of the room can be written off.
The IRS’s new simplified method typically has less errors and reduces the chance of an audit. It can maximize most home-office deductions by deducting $5 per square foot, but it can’t exceed $1,500.
The regular method tracks actual expenses and often yields higher deductions for bigger offices or expensive homes. It has no limit on the amount of office space and is determined from the percentage of your home used for business.
For example, if your home office were 200 square feet and the entire house is 4,000 square feet, then the percentage of your deduction is 5 percent.
Claiming a home office using the regular method also includes deductions on portions of mortgage or rent payments, utilities and insurance premiums.
7. Filling out forms incorrectly
Reviewing your tax return may be boring, but it’s important to be sure it’s filled out correctly.
Something that might seem insignificant, like an incorrect Social Security number or miscalculating your expected refund, can make the IRS look closer at your finances to see what else might’ve been filled out sloppily.
You can always file an amended tax return, but those can be costly and take a lot of time. Using tax software like TurboTax to file your return will help reduce errors, but double-checking your work is always good practice.