Filing taxes is something most people do only once a year, but even small mistakes can have significant consequences.
Whether you’re an individual taxpayer or a small business owner, errors in filing, reporting, or calculating your taxes can result in penalties, interest, or even audits.
A clear understanding of tax mistakes can help you avoid trouble and keep your financial records in good standing.
Top Common Tax Mistakes That Can Lead to Penalties
1: Underreporting Income
One of the most common tax law mistakes is failing to report all income sources. Be sure to include your income from freelance jobs, rental income, side gigs, investment profits, or digital currency earnings.
All income is taxable under federal law unless specifically excluded, and most states also impose a state-level tax on income. If you receive a 1099 form, W-2, or other record of income, you are required to report it.
Omitting even small amounts of income—intentionally or by oversight—can result in penalties of up to 20% of the underpaid amount.
2. Missing Filing or Payment Deadlines
Failing to file your tax return or pay taxes on time can trigger automatic penalties. These penalties accrue monthly and can add up quickly.
Even if you can’t afford to pay the full amount owed, filing on time and setting up a payment plan is far better than ignoring the deadline.
3. Not Keeping Records
Tax law generally requires individuals and businesses to retain tax records for a minimum of three years. However, under certain tax considerations for businesses, this period may be extended to six years for underreported income or indefinitely in cases involving fraudulent returns.
If you are audited, but are unable to produce receipts, invoices, or supporting documentation, you may have deductions denied and could face increased tax liability.
4. Neglecting to Amend a Return
If you discover a mistake on your tax return after filing, such as claiming the wrong deduction or forgetting income, you may be tempted to ignore it. However, failing to amend an incorrect return can result in retroactive penalties, especially if it leads to underpaid taxes. The tax laws allow taxpayers to file an amended federal return using Form 1040-X./p>
5. Ignoring IRS or State Notices
Whether it’s an IRS notice, a state department letter, or a request for additional documentation, failing to respond promptly can escalate the situation.
In most cases, agencies provide an opportunity to correct the mistake or provide clarification before issuing a penalty, but ignoring notices eliminates that opportunity. It can lead to liens, levies, or legal action.
6. Misclassifying Workers or Deductions
Businesses sometimes misclassify employees as independent contractors to reduce their payroll tax obligations. The IRS
and state revenue authorities tend to pay close attention to this matter.
Similarly, be careful to properly characterize travel, entertainment, or home office costs. Mislabeling personal expenses as business deductions can lead to audits and denied deductions. Tax agencies follow IRS guidelines to determine worker status and allowable deductions.
Tax Laws Can Vary—Consult a Local Attorney
The federal government and most state governments have distinct tax codes, audit procedures, and enforcement priorities. Always consult a tax attorney or accountant licensed in your state to understand the nuances of your local law.
Read Also: Federal Income Taxation in the United States