Some Tips to Stay out of Trouble with the IRS

1.  File your personal income tax return by April 15 of each year even if you cannot afford to pay the taxes you owe.  If you don’t file on time, the IRS will not only add on a penalty for failure to pay (FTP) on time, but also a penalty for failure to file (FTF) on time.  In addition to the penalties, interest is also added on to the balance due.

2. If you obtain an extension to file your tax return, the IRS will not assess a FTF penalty against you as long as you file by the extension due date.  However, an extension to file, does not necessarily protect you from a FTP penalty.  In order to avoid the FTP penalty, you must estimate the amount of taxes you will owe and pay at least 90% of what you owe with the extension.  When you file your return by the extension due date, you must then pay off any remaining taxes you owe.

3. If you don’t file your tax return, the IRS can prepare a substitute for return (SFR) for you to take the place of your return.  When the IRS does this, they will not take into account any exemptions, deductions or credits you may have.  Therefore, any taxes you owe will generally be much higher than if you filed your own return.  Once you file your own return, the IRS will generally replace the SFR with your return.  However, the IRS will examine your own return much more closely and may choose to audit you.

4. If you are an employee (W-2), make sure you have sufficient federal (and state) taxes withheld from your pay check each pay period.  If you are under withholding and owe the IRS each year, the IRS may send your employer a letter requiring your employer to withhold additional taxes from your pay check.  Thereafter, you generally cannot change your withholding again until you stop owing taxes and have paid off any balance due.

5. If you are self-employed, you must make estimated tax payments to the IRS (and state) every quarter to avoid owing taxes each year.  That way, you can avoid having to come up with a large tax payment when you file your tax return.   If you don’t make quarterly estimated tax payments, the IRS will assess you with a penalty for failure to make estimated tax payments.  In addition, the IRS will add on a FTP penalty if you cannot pay the amount you owe with your tax return.  Interest is also added on to the amount you owe.

Always file your tax returns each year even if you think you won’t owe the IRS any money.   If you have an overpayment or refund due to you, unless you file your tax return within 3 years of the date it was due, you will lose the refund.  For example, if you had a refund of $1,000 due to you for 2008, unless you file your tax return by April 15, 2012, you will not receive the refund of $1,000.

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What is the IRS “Fresh Start” Program?

In February, 2011, the IRS announced a new program to help struggling taxpayers get a fresh start with their tax liabilities.  The goals of the program are to make it easier for taxpayers to pay back taxes by changing the policies on the filing of liens, make it easier for small businesses to enter into an installment agreement and expand the offer in compromise program.

The IRS files liens as claims against your real and personal property in order to secure the payment of taxes you owe.   The filing of the Notice of Federal Tax Lien serves as a public notice to other creditors that the IRS has a claim against your property.  Not only do these liens appear on title to your real property, they also appear on your credit record and can affect your ability to borrow money.   Even after the tax liability is paid off and the IRS releases the lien, the lien release will stay on your credit record for up to seven years unless the IRS agrees to actually withdraw the lien.

Under the Fresh Start program, the IRS has made several changes to the filing of liens in order to try to lessen the negative impact of a lien on a taxpayer:

1. Significantly increased the dollar threshold when liens are filed.
The IRS has increased the lien filing threshold from $5,000 to $10,000.  However, if a taxpayer owes less than $25,000 and sets up an installment agreement that will pay off the liability within 60 months, the IRS will often agree not to file a lien.  If the taxpayer defaults on the installment agreement, the IRS will then file a lien.

2. Made it easier for taxpayers to obtain lien withdrawals.
Generally, the IRS will release a lien when your tax liability has been paid in full, you have filed all personal, business and information tax returns for the past three years and you are current with your estimated tax payments and payroll tax deposits (if applicable).  Under the Fresh Start program, after the IRS has released the lien, you can now request a withdrawal of the filed Notice of Federal Tax Lien.  Thus, the lien will no longer appear on your credit record.  In order to request the withdrawal, you must complete IRS Form 12277, Application for Withdrawal of Filed Form 668(Y), Notice of Federal Tax Lien.  As the reason for withdrawal, you should check off box 8d, “The taxpayer…believes withdrawal is in the best interest of the taxpayer and the government.”

3. The IRS will allow lien withdrawals under certain circumstances, when taxpayers who owe $25,000 or less enter into a direct debit installment agreement to pay back the taxes.
The IRS may agree to withdraw the filed Notice of Federal Tax Lien if you enter into a Direct Debit Installment Agreement and are (1) a qualifying taxpayer and (2) meet certain other eligibility requirements.

In order to be a “qualifying taxpayer”, you must be:

  • an individual filing a Form 1040
  • a business with income tax liability
  • an entity with any type of tax debt

The eligibility requirements are:

  •  Your tax liability must be $25,000 or less.  You can meet this requirement by paying down your tax liability to $25,000 before requesting the lien withdrawal.
  • Your Direct Debit Installment Agreement must pay off the amount you owe within 60 months or before the Collection Statute expires, whichever is earlier.
  • You must have filed all applicable tax returns and paid all applicable current taxes.
  • You must have made three consecutive direct debit payments on your installment agreement.
  • You cannot have defaulted on your current, or any previous, direct debit installment agreement with the IRS.
  • You cannot have previously received a withdrawal of a tax lien for the same taxes, unless the withdrawal was for an improperly filed lien.

If you are on a regular installment agreement, you may convert it to a direct debit installment agreement by contacting the IRS or using the IRS’s online services.

When completing IRS Form 12277, Application for Withdrawal of Filed Form 668(Y), Notice of Federal Tax Lien, check of Box 8b as the reason for requesting the withdrawal.  That is, “the taxpayer entered into an installment agreement to satisfy the liability on the lien, and the agreement did not provide for a lien to be filed.”

Be warned that, if you default on the direct debit installment agreement after the lien is withdrawn, the IRS may file another lien and pursue collection action against you for the liability.

Under the Fresh Start program, the IRS is also making it easier for struggling small businesses, with employees, to enter into installment agreements (known as the In-Business Trust Fund Express Installment Agreement.)   Generally, the IRS requires financial information and financial supporting documents from a small business to determine the amount the business must pay on an installment agreement.   Under the Fresh Start program, the IRS will generally not require this financial information as long as the business meets the following criteria:

  • The amount of taxes owed is 25,000 or less (or the business can pay down its liability to $25,000).
  • The tax liability must be paid within 24 months or before the expiration of the Collection Statute, whichever is earlier.
  • The business must enroll in a Direct Debit Installment Agreement if the amount owed is between $10,000 and $25,000.
  • The business must have filed all applicable tax returns and be current on all applicable tax payments.

The Fresh Start program also expands the Offer in Compromise (OIC) program to cover more taxpayers.

In order to qualify for an OIC, a taxpayer must generally prove financial hardship both with regard to (1) insufficient equity in his or her assets and (2) insufficient future income to pay off his or her tax liability within the time left on the Collection Statute.  It normally takes the IRS months to process an OIC and the IRS may require a taxpayer to produce substantial additional documentation to prove financial hardship.

Under the Fresh Start program, the IRS is attempting to “streamline” the OIC program by:

  • Making fewer requests for additional information
  • Making the requests by telephone instead of by mail
  • Allowing greater flexibility in determining a taxpayer’s ability to pay

The IRS will consider OICs from (1) wage earners, (2) the unemployed and from (3) self-employed individuals with no employees and gross receipts under $500,000.

Under the Fresh Start program, the “eligibility” requirements for submitting an OIC are:

  • Total household income is $100,000 or less and
  • The taxpayer owes less than $50,000 when he or she files the OIC.

For updates and further information on the Fresh Start program, check the IRS website at www.irs.gov.

 

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What is a substitute for return (SFR) and what should I do if the IRS files one for me?

If you don’t file a tax return each year, the IRS will send you a notice reminding you to file your return.   If you fail to do so, the IRS will eventually prepare a substitute for return (SFR) for you using wage and other income information (such as 1099 income, interest, dividends and sale of stock) reported to the IRS for you in that particular tax year.  In preparing the SFR, the IRS will not take into consideration whether you were married filing jointly, had dependents you could claim for that year or whether you had any deductions or credits that could lower your taxes.  As a result, you could end up owing substantially more taxes based on the SFR than if you filed your own tax return.  If you fail to pay the taxes the IRS has assessed against you, the IRS will start collection proceedings to collect the taxes.  This could include issuing levies against your bank account or wages and filing liens against your property.

The first notice you will receive showing the IRS is preparing an SFR for you is a “Notice of Proposed Individual Tax Assessment” (Letter 2566), also known as the 30-day letter.  The letter will notify you that the IRS has no record of your individual tax return for a particular tax year and the IRS is proposing to assess taxes against you in a certain amount.  The IRS will also add interest and penalties to the amount of the proposed taxes.  The notice will show what income sources the IRS used in preparing the SFR.   You will then have 30 days to file your own tax return, agree to the IRS’s proposed assessment and collection of the taxes or dispute the IRS’s proposed assessment.

When you receive a 30-day letter, the best thing you can do is to call the IRS before the 30 days runs out and inform the IRS agent you talk to that you will be filing your own tax return.   If for some reason you cannot file your own tax return within the 30-day time period, you should request additional time to file it  from the IRS.  Once your own return is on file, the IRS will review the return and determine whether to accept and process it.

If you fail to respond to the 30-day letter, the IRS will send you a “Notice of Deficiency” (Letter 3219), also known as a 90-day letter.   The 90-day letter states the amount of tax you owe, plus penalties and interest.   The letter will notify you that within 90 days, you must submit your own tax return, agree to the IRS’s proposed assessment and collection of the taxes or dispute the IRS’s proposed assessment.  It also advises you that if you dispute the amount of the assessed tax, you have the right to appeal to the United States Tax Court by filing a petition no later than the 90-day deadline.  You do not have to file a petition with the Tax Court as long as you file your own tax return with the IRS within the 90 days.

Remember, you should always file your own tax return rather than letting the IRS prepare an SFR for you.  Once the IRS has prepared the SFR, you should still file your own return so that you can claim all exemptions, credits and deductions you are entitled to.  However, the IRS will examine your own return to determine whether to accept and process it in place of the SFR.  This examination could turn into a full blown audit of your own return if the IRS finds you have not included all income sources, or claimed credits or deductions you may not be entitled to.   The IRS could also ask for proof of any or all deductions you have claimed on Schedule A or C of your return.   If the IRS accepts and processes your own return, the IRS will adjust the numbers based on your own return.

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Great tax deduction for working moms who are nursing!

In order to continue breast feeding once they return to the workplace, nursing mothers must use breast pumps to extract milk and store it to be fed later to their babies.  Despite studies showing the positive effects of breast feeding both on infants and on nursing moms, the IRS had for a long time refused to classify breast feeding supplies as a medical expense even though the IRS allows tax breaks for other items such as acne cream and denture adhesives.

On February 10, 2011, the IRS announced that it will now allow mothers to use pretax money from flexible spending accounts to cover the cost of breast pumps and other breastfeeding supplies.  The ruling will affect expenses beginning in 2010.   The new policy will help working mothers who decide to continue to breast feed after they re-enter the working world.

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Filing date for Form 1040

Filing date for Form 1040 – personal tax return

Normally, the filing date for a Form 1040 is April 15 of each year unless that day falls on a weekend or a legal holiday.  Since April 15, 2011 falls on a Friday, the question is why did the IRS change the filing date this year to April 18, 2011?  The reason is that April 15 falls on a holiday in the District of Columbia.  The holiday is Emancipation Day and is a celebration of the day Abraham Lincoln signed the Compensated Emancipation Act that freed 3,100 slaves in D.C.  Since the IRS considers holidays in D.C. to be legal holidays, the IRS changed the filing date to Monday, April 18. 

If you are filing for an extension, your tax return must be filed by Monday October 17, 2011.  That is because October 15, the normal extension filing date, falls on a Saturday.

 

 

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