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Tips to tighten up your tax return

Key takeaways

  • A new law gives the IRS more resources to enforce tax compliance.
  • Scrupulously document all tax-related actions, being especially careful with deductions.
  • Working with a tax professional to prepare your return can help you avoid costly mistakes and find solutions specific to your situation.

A recent law awarded the IRS additional funding to enforce tax compliance. While it's unclear what that might mean to the average person, it's a reminder that it's important not to rush through filing—and pay special attention to certain scenarios that tend to be tricky for taxpayers.

If you're filing electronically, double-check information imported by tax software against your W-2s and 1099s, says Lou Gentile, regional vice president for Fidelity Investments. "Make sure the cost basis for securities you've sold is correct and entered as such on your return," he says. But otherwise, using software is a plus: Filing electronically instead of mailing a paper return also greatly reduces the error rate—from 21% on mailed returns to just 0.5% on those filed electronically.1

Gentile suggests paying attention to these 5 other key areas as you work on this year's taxes.

1. Reported income

One of the most common reasons for tax-filing errors is failing to report income, which can simply be a mistake, explains Gentile. That includes not only salary reported on a W-2, but also anything from payments for work as an independent contractor to income from dividends, interest, and rental payments for property you own. "If you inadvertently fail to include income on your return, or if you report the wrong amount, IRS matching software will flag it," Gentile says. Failing to report income may simply get a notice in the mail requiring you to file an amended return and pay interest on tax you failed to pay initially. But a large discrepancy could result in penalty charges.

2. Allowable deductions for mortgage debt

Until recently, interest paid on a mortgage loan of up to $1 million was deductible. But now the limit is $750,000, and mistakenly claiming a larger deduction could lead to increased scrutiny, Gentile says. Mortgage interest is recorded on Schedule A, for itemized deductions. Other entries on that schedule, which includes medical expenses and charitable contributions, also have limitations that need to be understood and observed. For example, deductions for state and local taxes are now capped at $10,000, he notes. Consult with a tax professional for more details on which apply to you.

3. Losses on business income

Reporting self-employment income on Schedule C can increase IRS scrutiny, especially if your business deductions are substantial or if you claim expenses for a home office, Gentile says. For example, losses that exceed the amount of income you brought in may be questioned.

4. Residency for state returns

Because state income tax rates vary so widely—from more than 13% all the way down to 0%—the state you claim as your domicile can make a significant difference on your taxes. Moving to a low-tax state, splitting your time between states with high and low rates, or working in one state and living in another—scenarios that have become more common post-COVID—can potentially increase scrutiny. "Several northeastern states with high income tax rates are big on residency audits," Gentile says. He suggests compiling and saving any documentation your state requires—from change-of-address forms and voter registration to a log of your days in each state—that may help support your legal domicile.

5. Detailed documentation

Keep receipts and other records that back up everything on your tax return; in the event there are questions about your tax return, careful and detailed documentation can be invaluable. And the more complicated your deductions, the more important it is to have impeccable records.

For example, if you donate appreciated stock to a charity, you can deduct the fair market value of your shares on the day you transfer them. But you'll need a tax receipt to document the transaction. In addition, any non-cash contribution that exceeds $5,000 requires a written appraisal of its value. Getting the documentation right for sophisticated transactions, such as selling a business, or filing gift or estate tax returns is challenging, says Gentile, and likely calls for the services of an experienced tax professional.

Consider getting help

Working with a tax professional to prepare your return can help you avoid issues, notes Gentile. And what if, despite your efforts, you get an IRS inquiry? "Work with a tax advisor who has experience working with the appropriate regional or local IRS office," Gentile suggests. "There may be only a handful of federal or state auditors who do the work where you are, and someone who is familiar with the process may help you achieve a better outcome."

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More to explore

1. IRS, Understanding Taxes, Theme 6, Lesson 3, "The Methods of Filing."

Fidelity does not provide legal or tax advice. The information herein is general and educational in nature and should not be considered legal or tax advice. Tax laws and regulations are complex and subject to change, which can materially impact investment results. Fidelity cannot guarantee that the information herein is accurate, complete, or timely. Fidelity makes no warranties with regard to such information or results obtained by its use, and disclaims any liability arising out of your use of, or any tax position taken in reliance on, such information. Consult an attorney or tax professional regarding your specific situation.

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