Top 11 common IRS audit triggers: A guide for US expats
For US expatriates, navigating the tax waters can be even more daunting than for stateside citizens.
Understanding the common IRS audit triggers is essential in steering clear of tax woes.
We have carefully compiled a list of 11 red flags that could prompt the IRS to take a closer look at your tax return.
"In this world, nothing can be said to be certain, except death and taxes." - Benjamin Franklin.
As an American expat, filing your taxes accurately is paramount. Not only do you need to consider US tax laws, but often those of your country of residence as well.
Let's explore the IRS audit triggers to keep you in the clear.
1. Failing to report worldwide income
As an American citizen or green card holder, you are required to report your worldwide income, even if you reside outside the United States.
US citizens and resident aliens generally must report worldwide income (earned and unearned) and may still need to file even if credits/exclusions reduce US tax to zero. Tools like the Foreign Earned Income Exclusion (FEIE) and the Foreign Tax Credit (FTC) can reduce double taxation, but they don’t remove the underlying reporting and filing responsibilities.
IRS audit red flags: Not reporting foreign bank accounts, omitting income earned outside the US, or not reporting rental income from foreign properties.
Pro tip. Use the Foreign Earned Income Exclusion (FEIE) and the Foreign Tax Credit (FTC) to potentially lower your tax liability. FEIE can exclude a certain amount of your foreign earned income from US taxation while FTC allows you to offset taxes paid to a foreign government.
2. Discrepancies between reported income and lifestyle
A common reason the IRS contacts taxpayers is a mismatch between what you reported and what third parties reported (for example, Forms W-2 and 1099).
These mismatches can lead to a CP2000 notice asking you to explain or correct the difference. If you’re audited, the IRS may also look at whether your reported income reasonably supports your expenses - but the clearest day-to-day ‘trigger’ is usually third-party data that doesn’t match your return.
3. Errors in reporting foreign assets and accounts
Expats may have to report foreign financial accounts on an Foreign Bank and Financial Accounts (FBAR) (FinCEN Form 114) and may also have to file Form 8938 (FATCA) - these are separate requirements, and some taxpayers must file both.
For taxpayers living abroad, Form 8938 generally applies if specified foreign financial assets exceed $200,000 on the last day of the year or $300,000 at any time (single or filing separately), or $400,000 / $600,000 for joint filers. Missing or inconsistent foreign reporting can increase audit risk - so focus on completeness and consistency across forms.
Red flags: Not filing FBAR or Form 8938 when required, providing incomplete or inaccurate information, or underreporting account balances.
Pro tip. Familiarize yourself with the thresholds and requirements for reporting foreign assets and bank accounts, and ensure that all information is accurate and complete.
4. Claiming the foreign earned income exclusion inappropriately
To qualify for the Foreign Earned Income Exclusion (FEIE), you must meet the Physical Presence Test or the Bona Fide Residence Test.
Red flags: Claiming the exclusion without meeting the necessary criteria or making inconsistent claims from year to year.
Pro tip. Maintain accurate records of your physical presence or bona fide residence to substantiate your claim for FEIE.
5. Math errors
Simple mathematical errors can cause discrepancies in your return and inadvertently flag your tax return for review.
Red flags: Miscalculations, transposed digits, inconsistent entries, or failure to report all forms of income.
Pro tip. Double-check all calculations, and consider using tax software or consulting a professional to ensure accuracy.
6. Large charitable donations
The IRS takes notice if the charitable donations you claim are disproportionately large compared to your income.
Red flags: Claiming large charitable donations without proper documentation or donations that significantly reduce your taxable income.
Pro tip. Maintain proper documentation and be reasonable in the amounts you are claiming as donations. Be prepared to substantiate donations if questioned.
7. Home office deductions
Expats working remotely must be cautious when claiming home office deductions.
Home office deductions are mainly a self-employed deduction. If you run a business (or freelance) and use part of your home regularly and exclusively for that business, you may qualify.
But if you’re a W-2 employee working remotely, you generally can’t claim a federal home office deduction under current law. If you are eligible, keep clear records (space used, expenses, and business purpose).
Red flags: Claiming this deduction without meeting the IRS criteria or making excessive claims for home office expenses.
Pro tip. Ensure your home office is used exclusively for business and keep records of expenses such as rent, utilities, and maintenance. Understand the specific IRS criteria for claiming a home office deduction.
8. Overstating business expenses
For self-employed expats, business expenses can provide valuable deductions. However, exaggerating these claims can draw unwanted attention.
Red flags: Reporting unusually high expenses relative to income or claiming personal expenses as business expenses.
Pro tip. Keep detailed records of legitimate business expenses and be conservative in your claims. Understand the types of expenses that are deductible and the documentation needed to support them.
9. Utilizing aggressive or shady tax schemes
Engaging in aggressive tax avoidance schemes can put you on the IRS radar. These schemes often involve complicated transactions designed to exploit loopholes in the tax code.
Red flags: Using offshore tax havens, engaging in transactions with no economic substance, or participating in schemes that appear to be primarily for avoiding US taxes.
Pro tip. Be transparent in your tax filings and consult with a reputable tax pro to understand the distinctions between tax avoidance and tax evasion. Strive for compliance rather than aggressive minimization.
10. High income
Audit rates vary by year and taxpayer group, but overall individual exam coverage has generally been under 1% in recent years.
The odds rise for higher-income returns. IRS statistics using total positive income (TPI) show substantially higher exam coverage for higher-income groups - for example, taxpayers in the $1M–$5M range and above have notably higher coverage than typical filers.
High income isn’t ‘wrong’ - it’s just correlated with more complex returns and more dollars at stake, so accuracy and documentation matter more.
Red flags: Substantially higher income compared to previous years, especially when coupled with aggressive deductions, or having multiple foreign financial accounts.
Pro tip. As a high earner, it’s imperative to keep meticulous records and ensure all reported information is accurate; NOTE - especially for complex international tax scenarios.
11. Inconsistent filing history
Consistency in tax filings is important. The IRS can be alerted to possible issues if your filing history is erratic, particularly when it comes to foreign income and assets.
Red flags: Switching frequently between filing statuses, not filing annually, or inconsistent reporting of similar items from year to year.
Pro tip. Strive for consistency in your tax filings and ensure that you file annually, even if no tax is owed. Keep abreast with changes in tax laws that may affect expats.
Bottom line
Navigating the US tax system as an expat can be daunting. Staying informed about the IRS audit triggers and keeping meticulous records can save you time and stress.
When in doubt, seek advice from a tax pro well-versed in expatriate tax issues. As Benjamin Franklin said - “An investment in knowledge pays the best interest.”
Unsure of each piece to be filed?
Get your free tax consultation
FAQ
Not reporting all income, as the IRS compares your reported income against Forms 1099, W-2, K-1, etc., can trigger an audit. Discrepancies between these documents and your tax return may lead to closer scrutiny.
The likelihood of an IRS audit varies, with the overall rate under 1% for individuals. However, high-income earners, especially those making over $1 million, have a higher chance of being audited.
The IRS often audits high-income individuals, self-employed persons, business owners, and those with foreign income and assets due to the complexity and potential for discrepancies in their tax returns.
The odds of an IRS audit are generally low, under 1% for most taxpayers. However, individuals with higher incomes, particularly those earning over $1 million annually, face increased odds of an audit.
