Posted on February 27th, 2017
When the IRS can’t seem to make progress in collecting past due taxes from a taxpayer, it resorts to Tax Liens and Tax Levies
Tax Liens are statements put on the public record that an individual owes taxes, and that under the law, the government has a claim against of his property. The Lien is usually filed with the Register of Deeds in the county where the taxpayer lives, or for a business, where the business operates. The lien can be filed with the real property records, in which case the lien must be paid or otherwise removed before real estate can be sold in that county. The lien would also usually be filed in other counties where IRS learned the taxpayer had property. The lien can also be filed with the records of personal property liens, and would have to be satisfied or removed before the sale of personal property (personal furnishings, boats or cars, business equipment or other property).
While Internal Revenue Service has the power to foreclose its tax lien on real or personal property, it often relies on the lien to force the taxpayer himself to approach IRS to have the lien removed, if there is property that he wishes to sell, either now, or sometime in the future. Liens generally expire ten years after their filing.
Tax Levies are orders issued by the IRS to banks, employers or others holding a taxpayer’s property for those holders to give the property to IRS rather than to the taxpayer. Congress has given IRS the power to collect funds to apply to taxes in this manner. IRS generally makes a great effort to collect the tax without a levy. Sometimes, from the government’s point of view, it is necessary to levy someone’s property to convince them to cooperate with the system, and to pay their tax.
Removal of Tax Levies
Taxpayers can request that tax levies be removed, and IRS will often cooperate. IRS is more interested in having Taxpayers pay their taxes than in overseeing taxpayers individually. Generally in order to have a levy removed, the taxpayer must make some arrangement with IRS to pay the tax, or at least pay that portion of the tax that IRS believes the person can pay.
The procedure to have a levy removed is described on the levy notice. Call the number on the notice, and your options will be described to you.
One way to have a levy removed is to enter into an Installment Payment Agreement with Internal Revenue Service. To establish the installment amount, the Taxpayer and IRS review the Taxpayer’s income and living expenses, and hopefully agree on an amount that the Taxpayer can pay monthly against his tax. IRS employees are directed to leave Taxpayers with sufficient income to pay basic living expenses, even if it means IRS can receive no monthly amount at all.
A second arrangement to have a lien or levy removed would be by making an Offer In Compromise in which a smaller payment is accepted in lieu of the larger tax debt. The Offer In Compromise is also based on the Taxpayer’s ability to pay, so it also involves presenting IRS with financial information about property owned and monthly income and expenses. IRS procedures have become more liberal in recent years, encouraging taxpayers to file Offers In Compromise, but the criteria for having offers accepted are still quite strict, and most Offers are declined.
A further way to convince IRS to remove a levy is to show that the levy is causing the taxpayer severe economic hardship.
Levies on Wages
IRS can, when necessary, levy a person’s wages. A portion of one’s wage is exempt from a tax levy. The portion is based on the dependency exemptions and standard deduction available on the taxpayer’s annual income tax return. The exempt amounts are very low: The exempt amount for a single person with no other dependents is based on an annual exemption of about $10,000. The exempt amount for a married person entitled to one dependent is based on an annual exemption of about $17,000.
Wage levies are continuous. Once they have been issued, and the exemption calculated, they continue each pay period until the whole tax debt is paid, unless the taxpayer makes arrangements to have them removed.
Levies on Property
Tax levies on property (often accounts receivable by a business) are one-time events. The levy operates on property held for or owed to the taxpayer when the levy is delivered to the business or person holding the property. The levy does not continue to property coming due the taxpayer at a later time. If the property is a debt or account owed the taxpayer, the business or person pays the debt to IRS, and the levy stops. If the levy is on physical property rather than a monetary account, IRS follows a procedure for selling the property, and applies the proceeds to the tax account.
Tax Levy Due Process Hearing
Taxpayers whose property is being levied are notified prior to the levy, and are entitled to a Due Process Hearing, to verify that IRS has followed proper procedures in making the levy. Taxpayers request the Due Process Hearing by filing Form 12153 within 30 days after receiving a Notice that IRS plans to levy their property. Requests received after the 30 day deadline are also considered, but are not entitled to appeal adverse rulings. The final notice before a tax levy is always entitled: “Notice of Intent to Levy and Your Right to A Hearing”.
Due Process Hearings are very useful to taxpayers, as they stop collection activities while waiting for a hearing, and they give taxpayers a chance to propose resolutions to their tax debts other than the levy proposed by IRS. The proposals can include corrections of tax return information, Installment Payments, or possibly even Offers In Compromise.
If you have your notice of Intent to Levy, call the contact listed on the Notice. If not, call the national IRS levy release department at (800) 829-7650. Call to request release of your levy. If you prefer to deal through a professional tax advisor, give us a call: 734-995-2424.
Federal Income Tax Liens
Posted on February 26th, 2017
When the IRS can’t seem to make progress in collecting taxes from a taxpayer, it resorts to Tax Liens and Tax Levies.
Tax Levies are orders issued by the IRS to banks or employers or others holding a taxpayer’s funds for those holders to pay the taxpayer’s money to IRS to apply on his tax debt rather than to pay it to the taxpayer. Congress has given IRS the power to collect funds to apply to taxes in this manner. IRS generally makes a great effort to collect the tax without a levy. Sometimes, from the government’s point of view, it is necessary to levy someone’s property to convince the taxpayer to cooperate with the system, and to pay their tax voluntarily. Tax levies are not “public record”, so they don’t appear on one’s credit report On the other hand, the levies are direct communications to people who owe the taxpayer money or hold his property–people with whom he does business–of the taxpayer’s outstanding tax debt, which may damage one’s reputation as much as listing the debt on one’s credit report.
Tax Liens are statements put on the public record that an individual owes taxes, and that the government has a claim against all of his property. The Tax Lien is usually filed with the Register of Deeds in the county where the taxpayer lives, or for a business, where the business operates. The lien can be filed with the real property records, in which case the lien must be paid or otherwise removed before real estate can be sold in that county. The lien can also be filed with the records of personal property liens, where it would appear to anyone examining personal property records, and would have to be removed before the sale of personal property (personal furnishings, or business equipment or other property). Tax liens are public record, and usually appear on a person’s credit report.
Internal Revenue Service often does not make any further effort to collect on a tax lien, as the taxpayer himself will have to approach IRS to have the lien removed, if there is property that he wishes to sell, either now, or sometime in the future. Tax liens are valid for ten years, unless removed by IRS action. If a taxpayer owns property and makes no effort to resolve his tax bill, IRS has the power to foreclose its tax lien on real or personal property.
A tax lien is a declaration by IRS that a taxpayer owes taxes, and that the government will assert a claim against any of the taxpayer’s property when it is sold or disposed of… The tax lien is filed in public records and generally appears on a taxpayer’s credit report.
Tax liens allow RS to assert its claim on the taxpayer’s property without having to go through the immediate effort of learning who owes the taxpayer and issuing levies to those people. Liens even apply to property the taxpayer acquires in the future. In general, liens apply on a county by county basis. If IRS files a lien where the taxpayer lives, the lien may not attach to property the taxpayer owns in another county. (The absence of a lien does not forgive the taxpayer’s tax debt, of course.)
Removal of Tax Liens & Levies
Taxpayers can request that tax liens and levies be removed. Generally in order to have a levy removed, the taxpayer must make some arrangement with IRS to pay the tax, or at least pay that portion of the tax that IRS believes the person can pay.
The procedure to have a lien removed is stated on the lien notice. Call the number on the notice, and your options will be described to you. IRS is cooperative in removing small liens. Liens relating to large tax debts are generally not removed, even if additional collection measures such as installment payment agreements are put in place.
Taxpayers against whom a lien is filed often make arrangements to pay IRS, in order to avoid harsher collection measures such as levy of one’s accounts receivable or wages. A first option is often to enter into an Installment Payment Agreement with Internal Revenue Service. To establish the installment amount, the Taxpayer and IRS review the Taxpayer’s income and living expenses, and hopefully agree on an amount that the Taxpayer can pay monthly against his tax. IRS employees are directed to leave Taxpayers with sufficient income to pay basic living expenses, even if it means IRS can receive no monthly amount at all.
A second arrangement to have a lien or levy removed would be by making an Offer In Compromise in which a smaller payment is offered in lieu of the larger tax debt. The Offer In Compromise is also based on the Taxpayer’s ability to pay, so it also involves presenting IRS with financial information about property owned and monthly income and expenses. IRS procedures have become more liberal in recent years, encouraging taxpayers to file Offers In Compromise, but the criteria for having offers accepted are still quite strict, and most Offers are declined.
Tax Lien Due Process Hearing
Taxpayers against whom a tax lien is being filed are notified prior to the filing of the lien, and are entitled to a Due Process Hearing, to verify that IRS has followed proper procedures in filing the lien. Taxpayers request the Due Process Hearing by filing Form 12153 within 30 days after receiving a Notice that IRS plans to file a lien against them. Requests received after the 30 day deadline are also considered, but are not entitled to appeal adverse rulings.
Due Process Hearings are very useful to taxpayers, as they stop collection activities while waiting for a hearing, and they give taxpayers a chance to propose resolutions to their tax debts other than the lien proposed by IRS. The taxpayers’ proposals can include corrections of tax return information, payment of the tax before filing of the lien, making an Installment Payment Agreement, or possibly even making an Offer In Compromise.
Michigan Property Tax–Appealing Home Assessments
Posted on February 16th, 2017
Property is put on the tax rolls by city and township Assessors. Tax day (that is, tax valuation day) in Michigan is December 31. The taxable value on December 31 multiplied by the sum of the millage rates for the jurisdictions within which the property is located, determines the tax bills for the following year.
Assessors generally notify property owners of their Assessed Values and Taxable Values in February. Property owners disagreeing with their assessments can appeal them.
There are two levels of property tax valuation appeals in Michigan, the Board of Review and the Michigan Tax Tribunal. Valuation questions may be argued before these agencies, but, under Michigan’s constitution, cannot be appealed to the court system, except for an error of law or the adoption of wrong principles. Boards of review are appointed for each assessing district. The Tax Tribunal is a State board.
Property taxes are calculated by multiplying the millage rate of the various taxing agencies by the Taxable Value. By statute, Assessed Value is to be equal to one-half of the property’s true cash value. Taxable Value is set equal to a property’s Assessed Value after any “transfer” of the property. While a property owner continues to own a piece of property, annual increases in Taxable Value are limited to the lower of the rate of inflation or 5%.
Assessments are reviewed by the County and State authorities to determine whether a jurisdiction’s assessments, in the aggregate, equal one-half of true cash value. If the review determines that assessments in a jurisdiction do not equal 50% of true cash value, an “equalizing factor” will be generated and applied to the assessed value of all property within the jurisdiction to make its assessments conform to the remainder of the State.
Assessment notices are sent to property owners in February. Property owners may appeal their assessments to the Board of Review, which meets in early March. (Three cities, Detroit, Grand Rapids and Wyoming, require an appeal to the Assessor before allowing an appeal to the Board of Review. These cities issue their assessment notices earlier. Appeals begin earlier because the assessor’s appeals must be completed before the Board of Review.)
Valuation appeals to the Board of Review are a prerequisite to appealing residential property valuation to the Michigan Tax Tribunal. Appeals to the Tax Tribunal must be filed by July 31.
Boards of review do not keep a record of their proceedings. They are meant to be and are more informal than court proceedings. Boards of Review schedule their hearings, and often schedule them to last only 30 minutes. This means that the parties have a very limited time to present their evidence and arguments. It’s a good idea to present evidence to the Board of Review in summary format with supporting documents attached.
Boards of Review are established to certify the work of the Assessor. They work with the Assessor on every case, and develop a close relationship with the Assessor. They do not act as impartial judges. Taxpayers should realize that their “Burden of Proof” is greater than simply showing that their proposed valuation is probably more accurate than the Assessors. The taxpayer must show the Board of Review why the assessor’s work should be changed.
Persons dissatisfied with the action of the Board of Review can appeal to the Michigan Tax Tribunal. Tribunal appeals must be filed by July 31.
The Tax Tribunal consists of seven members appointed by the Governor. Cases are divided into two categories–Entire Tribunal cases and Residential Property and Small Claims Division cases. Entire Tribunal property cases generally relate to industrial and commercial property. Entire Tribunal cases are heard by one or more tribunal members. Hearings may be lengthy. Residential Property and Small Claims cases are heard generally by a single administrative law judges under the direction of the Tax Tribunal. The ALJ might be an attorney, an accountant, or an appraiser. Hearings are extremely short, generally around 30 minutes.
The most persuasive evidence that can be presented to the Tax Tribunal is an appraisal by a well qualified appraiser. The challenging taxpayer will have no success without it. The municipality will have a counter-appraisal or formulas of some kind supporting its position. Additional evidence is very useful, and could include:
Sales of comparable properties,
Listings of comparable properties,
Purchase agreements showing negotiation of the purchase price,
In Residential Property and Small Claims matters, discovery (that is, formal demand for information from the adverse party) is at the discretion of the judge, although assessors will generally cooperate with taxpayers. Tribunal rules require the exchange of valuation information about 23 days prior to the hearing date. If it is not provided in a timely manner, the delinquent party can be found in default by the judge.
Assessors have information that may assist in evaluating the property or in making an appraisal. Taxpayers may request, informally or under the Freedom of Information Act, or as Discovery, if allowed by the judge, the following information:
Property record cards,
Land value maps or grids,
Economic condition factor studies,
Comparable sales in or near the taxing jurisdiction,
Equalization Department sales studies,
Market vacancies and listings,
Photos or diagrams of the property.
Affordable Care Act Small Employer Requirements
Posted on December 12th, 2016
AFFORDABLE CARE ACT
The idea behind the Affordable Care Act is that everyone deserves and should have affordable health care. If a person is employed, the burden is generally placed on his employer to provide him with a source for that health care, and to pay for enough of the cost through a fringe benefit to the employee to bring the cost to the individual down to an affordable level.
What kind of Health Care are we talking about? The level of health care employers are required to make available is called the “Bronze” level of health care available from health insurers. Employers are required to make Bronze level benefits available and affordable to the worker and available for the worker’s dependents (not including one’s spouse). In general, the Bronze level of health care is designed to cover 60% of the covered employee’s health care costs. “Affordable” means the worker’s coverage should not cost more than 9.5% of the worker’s income.
The employers who must make affordable health care available to their employees are “Applicable Large Employers” or ALEs. ALEs are employers with 50 or more Full Time Employees and Full Time Equivalent Employees. ALEs are required to make insurance available to at least 95% of their Full Time Employees. (Phase-In rules for 2015 exempted employers up to 100 employees, and made the coverage requirement 70% for that year.)
Insurance Not Provided:
If insurance is not made available to 95% of Full Time Employees, the employer will be subject to a penalty called the Employer Shared Responsibility Payment (ESRP). The ESRP is $2,080 times the (total number of Full Time Employees (FTEEs) less 30). Note that all of the Full Time Employees (less 30) are multiplied by the penalty, not just those not covered or those whose coverage is unaffordable.
Example: For 100 employees the ESRP would be $2,080 times (100 less 30),
or $2,080 times 70, which equals $145,600.
Insurance Provided but Not Bronze or Not Affordable:
If insurance is offered to 95% of Full Time Employees (FTEEs), but the insurance is not Bronze level or is not affordable, the employer is also subject to the Employer Shared Responsibility Payment (ESRP). In this case, the maximum ESRP is $2,080 times the (total number of Full Time Employees (FTEEs) less 30). If less, the penalty is $3,120 times the number of Full Time Employees (FTEEs) claiming a subsidy on Health Care Insurance that they obtain from a government marketplace.
Example: For 100 employees the maximum ESRP would be $2,080 times (100 less 30), or $2,080 times 70, which equals $145,600, or, if less, the number of FTEEs claiming the health care subsidy less 30, times $3,120, which could be as high as ((100-30) x $3,120) or $218,400.
Neither of these penalties is assessed unless one or more Full Time Employees (FTEEs) has claimed a subsidy toward the payment of his health insurance on a government marketplace. Whether the FTEE is entitled to claim a subsidy is determined based on figures on the employee’s income tax return. Therefore the employer’s penalty cannot be determined until after the filing of all income tax returns by employees for the relevant year. Penalties will be assessed by Internal Revenue Service about 10 to 12 months after the end of the year.
These penalties can be substantial and will require many employers of around 50 employees to examine their operations.
AVOIDING EMPLOYER PENALTIES UNDER THE AFFORDABLE CARE ACT
Facts to understand about the Affordable Care Act are:
1. The ACA applies to Applicable Large Employers (ALEs). For 2017 and thereafter, ALEs are employers who have 50 or more Full Time Employees (FTEEs) plus Full Time Equivalents (FTEs) in the year prior to the current year. For the year 2016, employers were not subject to providing health insurance unless they had more than 100 Full Time Employees (FTEEs) plus Full Time Equivalents (FTEs) in 2015.
2. Full Time Employees (FTEEs) are employees working 30 hours per week or more. Full Time Equivalents (FTEs) are calculated by adding the hours worked by all part-timers and dividing by 120 hours per month.
3. Companies that had fewer than 100 Full Time Employees and Full Time Equivalents in 2015 were NOT subject to the ACA for 2016.
4. Companies that had 50 or more Full Time Employees and Full Time Equivalents in 2016 will be subject to the Affordable Care Act for 2017.
5. Once the Employer is subject to the ACA, it is required to offer affordable health care, meeting minimum requirements, to at least 95% of its Full Time Employees (FTEEs), or the company faces penalties. Neither of the penalties applies unless at least one employee claims the tax credit on an insurance exchange because he was not offered coverage, or because the coverage was not adequate, or because the coverage was not affordable. (But there are big penalties for discouraging an eligible employee from claiming the credit.)
6. One of two penalties applies:
a. If the employer does not offer insurance at all to at least 95% of Full Time Employees, the employer faces a “Sledgehammer Penalty”:
$2,080 times (Number of All Full Time Employees (FTEEs) less 30).
b. If the employer offers insurance to 95% of Full Time Employees, but the insurance is not of high enough quality, or is not “affordable”, the employer faces a “Tackhammer Penalty”:
$3,120 times (Number of Full Time Employees (FTEEs) claiming a tax subsidy on an insurance exchange less 30).
c. The penalties will be computed and billed by IRS after all tax returns are filed for the year, about October of the year following the year to which they apply.
7. Both penalties apply only to the number of Full Time Employees (FTEEs) less 30. Part timers, regardless of how many are employed, or how many Full Time Equivalents they amount to, do not count toward the penalties.
8. Employer penalties are calculated on a monthly basis. The employer may be subject to a penalty some months and not others, if the employer has more than 30 employees some months, and fewer in other months.
9. If an employer can manage its business to avoid exceeding 30 Full Time Employees in any month in 2017, it will avoid ACA penalties.
10. If the employer exceeds 30 Full Time Employees in any month its penalty will be the (number of Full Time Employees (FTEEs) exceeding 30) times ($3,120/12). If an Applicable Large Employer had 32 FTEEs for a month, for instance, its penalty would be: (32 -30) x $260, or $520 for that month.
Federal Income Tax–Roth IRA Contributions
Posted on November 1st, 2016
Individual Retirement Accounts have been available since 1974, and have proven useful for people who do not have retirement plans through their employers, or for people who do have other retirement plans but have relatively low income. All taxpayers can contribute an amount equal to their earnings, up to $5,500 ($6,500 if over 50 years of age) to an IRA; if they have no other retirement plan, they can deduct that contribution from their taxable income, and earnings in the account are free of tax until withdrawn.
Persons with income under $61,000 (single) or $98,000 (married) can deduct their contributions to a traditional IRA even if they are covered by another retirement plan. Taxpayers covered by retirement plans whose income is above the limits for deducting contributions have for years been allowed to make their $5,500 or $6,500 contributions to an IRA, but can’t deduct the contributions. The non-deductible contribution comes out tax-free when withdrawn. While the earnings from the IRA are taxed when withdrawn, there would still be the advantage that income earned in the IRA compounds free of tax until withdrawn.
IRAs are generally subject to minimum distribution requirements once the owner reaches age 70-1/2. The minimum distribution requires people to withdraw funds from IRAs, creating a taxable event, making taxpayers pay income tax on the deferred contribution and on the earnings in the account.
Roth IRAs are a new breed of IRAs that were created in 1997. Roth IRAs have tax advantages for many people. Roth IRAs are created with after-tax funds. There is no deduction in the year contributions are made. When withdrawals are made the withdrawals are totally tax-free—not only the amount contributed, but the income earned in the account as well.
Roth IRAs are a good tool for transferring wealth to the next generation. Since withdrawal from a Roth does not create a taxable event, there is no minimum distribution requirement forcing a taxpayer withdraw his Roth IRA. The taxpayer leave his Roth IRA intact, and withdrawals from the Roth IRA will not be taxable income to whomever would inherit it. Beneficiaries are required to withdraw the Roth over their life expectancies (hopefully a long time), but the funds withdrawn are all tax-free.
Congress enacted an income limit for Roth IRAs—you cannot contribute to a Roth IRA if your income exceeds $132,000 (single) or 194,000 (joint). Contributions begin being limited at income levels about $20,000 below those figures.
The advantages of Roth IRAs are so great that Congress created a way for taxpayers to convert their traditional IRAs into Roth IRAs, by paying tax on the amount converted in the year of conversion. And the advantages are so great that many taxpayers are willing to pay the tax before they would otherwise be required to, in order to qualify for the Roth rules. Taxpayers making any amount are allowed to convert their traditional IRAs into Roth IRAs, so long as they pay the tax on the amount converted.
IRA account holders can convert their IRAs into Roths and then to “recharacterize” the conversion back to a regular IRA up to the extended time they could file their tax return for the year of the conversion. A tax wise strategy would be to convert one’s conventional IRA into two Roth IRAs on January 1 of year 1, with one Roth being invested in equities, and the other being invested in bonds. The account holder can wait until October 15 of year 2 to recharacterize whichever one of the Roths went down in value back into a conventional IRA. The other IRA, if it went up in value, would allow a conversion into a Roth of a higher value than the January 1 of year 1 reportable income.
Loss of Tax Overpayment By an Injured Spouse
Posted on October 27th, 2016
LOSS OF TAX OVERPAYMENT BY AN INJURED SPOUSE
Internal Revenue Service is allowed to take a taxpayer’s overpayment and apply it to prior federal or state tax balances, to delinquent student loans, or to child and spousal support obligations. When it applies such overpayments from joint tax returns, IRS applies the whole overpayment to the prior debt, even though the debt may have been that of only one spouse. In that case, IRS may be taking money to pay the debt of the Debtor Spouse from the non-debtor spouse, the Injured Spouse.
On request, IRS will go through a computation of what portion of the tax due on a joint return, and what portion of the payments made toward the tax, belong to the Debtor Spouse and the Injured Spouse. The Injured Spouse requests this computation by completing Form 8379–Injured Spouse Allocation.
Form 8379 can be filed with the couple’s joint income tax return, or separately after IRS has seized the tax overpayment. Form 8379 allocates all income to the person who earned the income. Jointly earned income, like bank interest or dividends from joint accounts, is allocated half to each spouse. Withheld tax is allocated to the individual who earned the income from which the withholding is taken.
Estimated tax payments and payments to extend the due date for filing the tax return are allocated as the couple agrees. They can be allocated wholly to the Injured Spouse.
Itemized deductions are allocated to the person who pays the deductible amounts. The Standard Deduction, if elected, is divided equally between the spouses. Personal exemptions are divided between the spouses according to which spouse would be entitled to each exemption if the couple filed separate returns.
The instructions for Form 8379 instruct people from community property states how to allocate their income, withholding and tax payments under community property rules.
Injured Spouses are distinct from Innocent Spouses who can, in some circumstances, be excused from paying tax on unreported income earned by the other spouse.
Installment Agreements to Pay Federal Income Taxes
Posted on October 26th, 2016
INSTALLMENT AGREEMENTS TO PAY FEDERAL INCOME TAX
The Internal Revenue Service recognizes that the payment of large accumulated balances of back taxes can be very difficult. The Service has several installment payment arrangements available to reduce the burden of paying back income taxes. To qualify for any of these arrangements, taxpayers must file all of their tax returns up to date, and they must keep their payments current while they pay off their prior tax debt. The arrangements for installment payment agreements vary depending on how much the taxpayer owes. This outline relates to debts for individual income tax. Different criteria are applied to business and payroll tax liabilities.
I Owe Less Than $10,000
If you owe IRS less than $10,000, IRS is required to allow you to pay your debt in installments, if you have paid your tax on time for the prior five years. You must propose monthly installments will pay off the debt within three years. IRS says that it grants these installment agreements even if you would be able to pay the debt in full. Apply for an installment agreement on Form 9465–Installment Agreement Request, or go to IRS.gov and enter “Online Payment Agreement” in the search box. No tax liens are filed for these small debts
I Owe Less than $25,000
If you owe IRS less than $25,000, Internal Revenue Service is anxious to get you started to pay off your balance. You can file Form 9465–Installment Agreement Request or go to IRS.Gov to apply for an installment agreement. IRS will generally accept your financial information without verification, and will accept a payment period of up to 72 months (but not longer than the “10 years from assessment date” Statute of Limitations). You will not be required to arrange for direct debit to your bank account. If you have previously had an installment agreement which you didn’t fulfill, you will be required to verify your financial information. No tax lien is filed for debts of $25,000 or less.
I Owe Less Than $50,000
If you owe less than $50,000, you may apply for an installment agreement using either Form 9465 or online at IRS.gov. Arrangements for a direct debit to your bank account or a payroll deduction are required for debts in excess of $25,000. Under a Streamlined Processing test program scheduled to run until September of 2017, IRS is not requiring a formal Collection Information Statement for debts of $50,000 or less. Direct debit or payroll deduction is encouraged, but is not required under the Streamlined Processing test program. If direct debit or payroll deduction is not agreed to by the taxpayer, filing of a tax lien will be considered.
I Owe Less Than $100,000
If you owe more than $50,000, you don’t qualify for the usual procedures for Streamlined Processing of your installment agreement request. If you owe less than $100,000, though, you qualify under the test program scheduled to run until September, 2017. Under the test program, you may request an installment period of up to 84 months, but not beyond the Statute of Limitations. If you agree to direct debit or payroll deduction of your installment payments, you will not be required to verify your income and expenses on a formal Collection Information Statement. Filing of a tax lien will be likely.
I Owe More Than $100,000
If you owe more than $100,000, you don’t qualify for a “Streamlined Processing” option for an installment agreement. IRS does recognize the difficulty that you may have paying your tax, however, and will work with you, if necessary. Plan on filing Form 433A–Collection Information Statement. A budget is an important part of that statement. You will find it worthwhile to look up the National Standards for expenses allowed on that statement. Search National Standards on IRS.gov. There are National Standards published for Food, Clothing & Miscellaneous, Housing, Vehicle Ownership, Vehicle Operation, and Out of Pocket Medical Expenses. IRS will generally allow their calculated National Standards, regardless of your actual expenses. IRS may resist allowing more than the National Standards.
If you owe taxes, it is almost always to your benefit to be in contact with IRS. If the Service is not already in touch with you, get in touch with them. Plan to file all future tax returns on time, with full payment.
Federal Income Tax – Taxes and Divorce
Posted on August 27th, 2016
Divorcing people find themselves very interested in several sections of the Internal Revenue Code. Where one spouse has substantial retirement benefits, the parties should examine the rules for a Qualified Domestic Relations Order, or QDRO, which can divide the retirement benefits between the parties. If one party will be making payments to the other, the parties are allowed to determine which of them will be taxable on the payments through the Alimony rules of Section 71 of the Code.
In property settlements between divorcing parties, no gain or loss is recognized. The parties should realize, however, that the “basis” (cost) of whatever property they receive will carry over from when the couple acquired it. This can make a large difference when a party later sells the property. They should make an effort to divide both the property and the basis fairly. There is a $500,000 exclusion of gain on selling a marital residence. The excludable gain is only half as much for a single person. Couples with a large gain on their residence must be careful to sell at the proper time, and under the right conditions to maximize the exclusion.
The custodial parent normally gets the dependency exemption for dependent children. Only if the custodial parent signs off on claiming the exemption is the non-custodial parent allowed to claim the child or children.
Legal fees incurred in getting a divorce are not deductible. Legal fees incurred in getting tax advice, or in obtaining or collecting taxable alimony, are deductible.
QUALIFIED DOMESTIC RELATIONS ORDERS
The legal instrument for dividing retirement plans between the divorcing parties is the Qualified Domestic Relations Order (QDRO).
Retirement Plans come in two flavors: (1) Defined Contribution Plans, where the current value can be determined at any time, but the retirement benefits are not determinable, and (2) Defined Benefit Plans, where the retirement benefit is pre-defined, but the value at an earlier date can only be determined by an actuary.
Most retirement plans are subject to the Employee Retirement Income Security Act (ERISA). Plans that are subject to ERISA must provide for Qualified Domestic Relations Orders (QDROs) to divide retirement benefits between the plan participant and his or her spouse or other dependents.
Before QDROs, retirement plans were taken into account in divorce settlements, but the non-participant spouse was often given additional property to “offset” the retirement plan value retained by the participant spouse. The offset method is still often used for simplicity where the value of the retirement assets is small. The offset method won’t work in all cases because parties often don’t have enough assets outside of the plan to offset the value of the plan.
QDROs allow plans to be divided by the “Deferred Division Method” or the “Shared Benefit Method”. “Deferred Division” implies that both spouses will use the plan assets for retirement, but they are not required to. Many QDRO divisions are immediately rolled over into an IRA, or simply cashed out. The early withdrawal penalty does not apply when cashing out a QDRO. There are rumors that people have divorced in order to receive QDRO funds which are usually not available under retirement plans, and to avoid the early withdrawal penalty.
The “Shared Benefit Method” assures that both spouses will use the retirement fund for their retirement. Shared benefit assigns a portion of each benefit payment to each spouse. The shared benefit method avoids the necessity of valuing the plan at the time of divorce. The shared benefit method is often used where withdrawals from the plan have already begun before the divorce.
Plan administrators are often available to assist with forms or wording of QDROs. A QDRO can’t increase a plan’s obligations; it can only divide existing obligations between the plan participant and his or her spouse or dependents. Plans can have a variety of benefits besides a normal retirement annuity—survivor benefits, augmented early retirement benefits. These benefits should be addressed in the QDRO. Both parties and their attorneys should read at least the Summary Plan Description to know what benefits are available to be divided.
QDROs can divide retirement plans in favor of children or other dependents as well as spouses.
QUALIFIED ALIMONY/SECTION 71 PAYMENTS: DEDUCTIBLE BY PAYOR, TAXABLE TO PAYEE
Qualified Alimony is defined in Section 71 of the Internal Revenue Code. The definition in Section 71 does not correspond to other definitions of alimony in the legal or real world. In Section 71, there is no requirement that Alimony be for support, or that it be paid in periodic payments. Section 71 Alimony that is taxable to the payee is deductible by the payor.
Section 71 requires that deductible alimony be paid in cash. Property or the use of property doesn’t count as alimony. Payments can be to a third party “on behalf of” the payee. Deductible alimony must be paid under a Court Order or Written Separation Agreement. The Court Orders mentioned in Section 71 are: a decree of divorce; a decree of separate maintenance; a written instrument incident to a decree. The parties may write their own Written Separation Agreement calling for payments that will qualify as alimony under Section 71.
To qualify as deductible alimony the payments must not be designated as non-deductible/non-taxable in the governing instrument. The parties cannot be members of the same household at the time the payments are made.
To qualify as deductible payments, there must be no liability to make payments for any period after the payee’s death, and no liability to make any substitute payments. The lack of liability for continuing payments may (and should) be stated in the governing instrument (Decree or Separation Agreement), or it can be a feature of local law. In Michigan, “Alimony” does not survive the payee’s death. Note that “Qualified Alimony” does not necessarily correspond to alimony as defined in Michigan divorce law. There does not need to be any support element or Periodic Payments in “Qualified Alimony.”
If the alimony payee is concerned to receive a certain amount from the dissolution of the marriage even if he or she should die, this would be an ideal place to use life insurance. The alimony payee can insure his or her death, but the alimony payor should not provide that insurance directly.
If you wish to describe “Qualified Alimony” be sure to state that the payments end in the event of the death of the payee, regardless of how unlikely that death is before the payment of the alimony—even if the payment is being made on the same day the agreement is signed.
Qualified Alimony payments cannot be treated as child support in the document, either directly, or by adjusting the “Alimony” payments as the children reach certain ages.
Excessive “front loading” of alimony payments in the first three years will cause a portion of payments to be recaptured in the third year. Front loading is the most complex requirement Qualified Alimony must meet, but it only tests the first three years, so the math is manageable. Front loading is only concerned with decreasing payments. If the payments stay level or increase, there is no front loading issue.
Excessive “front loading” is calculated as follows:
- Begin with the third year’s payment(s).
- Second year payments will not be excessively front loaded if they do not exceed third year payments plus $15,000.
- First year payments will not be excessively front loaded if they do not exceed the average of the second and third years’ payments plus $15,000.
It might be easier to apply two rules of thumb which avoid going through the calculations: You can have one $15,000 “step down” in the first three years, or you can have two $10,000 “steps down” in the first three years without excessive front loading. Note that years one, two and three are calendar years. If the first payment is near the end of year one, year two’s payment may be paid shortly thereafter.
Qualified Alimony need not be paid for support. It can be used to pay attorney fees, to equalize property settlements, to buy out a business interest, to divide a small or non-qualified pension plan, to make the “interest” portion of a property settlement deductible to the payor, or for any other reason the parties may have, so long as the requirements are met.
PROPERTY SETTLEMENT: NO GAIN OR LOSS IS RECOGNIZED ON TRANSFERS BETWEEN THE SPOUSES OR INCIDENT TO A DIVORCE
A transfer is “incident to a divorce” if it occurs within one year of the divorce, or if it is related to the cessation of the marriage. A right of first refusal granted in a property settlement was found to be “related to the cessation of the marriage” years after the divorce.
The transferee spouse takes the property as if received by gift from the transferor spouse—cost basis and date basis carry over. Divorcing parties (or their attorneys) should compare not only the current values of the property being divided, but also the basis of the property, so that one spouse is not burdened with excessive low-basis assets which will generate taxable gains in the event of sale. Cost basis can be adjusted in some cases by borrowing against the property before its transfer.
How should the parties take potential tax liability into account? Subtracting a calculated tax from the current value sort of assumes an immediate sale. Ignoring the potential tax sort of assumes the property is never sold. It seems appropriate to compromise somewhere in the middle. Michigan courts have seldom reduced property values for potential tax liability, generally finding that assuming a taxable sale of the property was speculative.
If property is to be disposed of in a divorce, it is important to transfer the property between the spouses (tax-free) before the sale to locate the tax liability where it is appropriate. The tax liability is determined by the ownership of the property when it is sold. If property is sold by husband and wife as joint owners in Michigan, it is reported one-half on each spouse’s tax return. If property becomes co-tenancy property under the divorce decree, it will be an equal co-tenancy unless the court specifies otherwise. The parties are free to divide property or the proceeds of sale of the property in another proportion; make their ownership interests proportionate to their sale proceeds, or someone will pay too much tax. If the property is to be sold and Husband is to receive 1/4 of the proceeds, make him a co-owner of 1/4, or he will be paying tax on 1/2 of the sale proceeds, including part that goes to his EX.
While the parties can divide their property between themselves to control their tax consequences, they can’t “assign” taxable income earned by one to the other. An attorney who assigns half of an expected fee to his spouse will be taxable on the whole fee. Most adjustments of taxable income between the spouses can be solved using Section 71 payments.
A common problem of divorcing couples is buying out a business interest of a soon-to-be ex-spouse in a tax efficient manner. One way it is done is to “hire” the ex-spouse to pay her with deductible corporate dollars. A second way is to pretend to hire the ex-spouse, paying her for no services with deductible corporate dollars. If this sham is discovered by IRS, the result is no deduction to the corporation, and the taxation of a dividend to the owner. A solution is to pay the dollars to the continuing owner, who transfers them to the ex-spouse using Section 71 Qualified Alimony.
Another way to handle the buyout of the ex-spouse would be by the redemption of stock. Assume W owns 100% of Company X. W transfer 50% of Company X to H. H’s shares are redeemed by Company X over time. Company X’s obligation to H is guaranteed by W. This is all a perfectly acceptable way to have the business buy out the ex-spouse (with after tax funds), provided W has no “primary and unconditional obligation” to make the payments due H. If she does have a primary obligation, then the corporation is paying her obligation, which will be treated as a dividend taxable to her.
The parties might also arrange for the use of Qualified Retirement Plan funds to buy out the ex-spouse. A QDRO pays the ex-spouse (or soon-to-be ex-spouse) the buy-out value. This provides security to the spouse receiving the funds, it preserves the business owner’s cash flow, and the retirement fund might be replenished for the business owner over time.
MARITAL RESIDENCE GAIN EXCLUSION
Internal Revenue Code Section 121 provides for the exclusion of $250,000 of the gain on the sale of a residence for a single person, and an exclusion of $500,000 of gain for a married couple. Requirements are (1) that the home be owned and used as the parties’ primary residence for two years out of the last five years before sale, (2) that the parties have not used the exclusion in the last two years, and (3) that the couple file a joint return. Both parties must satisfy the two year use requirement, but only one needs to satisfy the two year ownership requirement. The two year ownership and use requirements are pro-rated if an early sale is caused by unforeseen circumstances—loss of job, health problems, or divorce.
Unmarried co-habitants—A & B, unmarried, have owned their home jointly and have lived in it for over two years. They are about to sell it for a gain of $256,000. By virtue of their joint ownership, the gain is attributed 1/2 to each of them. Each has an exemption of $250,000 available, so each of their gains are excluded. If only one had owned the home, there would be only one $250,000 exclusion.
Newly married—A & B marry and buy a new home. They each sell their previous homes, A’s for a gain of $300,000, and B’s for a gain of $200,000. Each had owned and occupied their respective homes for more than two years. A is allowed an exclusion of $250,000, and B is allowed an exclusion of $200,000.
If a single homeowner marries the spouse must reside in the home (and not sell another home) for two years before the couple qualifies for a $500,000 exclusion.
The date basis for purchase of the home transfers from one spouse to the other if the property is transferred in a divorce. Use by a spouse or former spouse which is specifically provided in the divorce decree or written separation agreement is attributed to the non-occupant spouse. Arrangements for the custodial parent to use a co-owned home while children are minors, then house to be sold, will qualify for the $250,000 exclusion for each co-owner, even though the non-custodial parent has not lived in the home for years.
In joint ownership each party can deduct the interest and taxes that he or she paid.
In co-ownership each party can deduct the interest and taxes he or she paid only up to that party’s proportional interest in the property.
Tenancy by the entireties (marital joint ownership) converts into equal co-tenancy upon divorce, unless the divorce decree specifies otherwise.
The marital home can be a qualifying first or second home for the non-custodial parent (for the purposes of deducting mortgage interest) if his or her children live there.
With some planning, the parties can use the Alimony definition of Section 71 to assign the home deductions to whomever benefits from them.
CHILDREN’S DEPENDENCY EXEMPTIONS
The general rule is that the custodial parent gets a child’s dependency exemption UNLESS he or she agrees not to take the exemption on Form 8332. This general rule applies whenever the parents together provide more than half of the support for the child, and have custody of the child for more than one-half of the year.
Any substitute for Form 8332 must have all of the information contained on Form 8332. A letter of intent or a letter of agreement between attorneys or parties won’t serve as a substitute for Form 8332. The Form can be signed once to cover one year or many years into the future. Probably the best practice is for the custodial parent sign Form 8332 each year after all support payments are made. Assignment of the dependency exemption to the non-custodial parent in the divorce decree is not effective BUT Michigan courts can require the custodial parent to sign Form 8332 if that is equitable or conforms to a divorce judgment.
Either parent may deduct medical expenses paid for their dependent child.
Legal fees that either spouse pays in a divorce are considered personal and non-deductible. Fees that either party pays for tax advice are deductible under Section 212(3) of the Internal Revenue Code which provides that all fees paid to plan or calculate taxes are deductible.
Legal fees related to the production or collection of taxable alimony are deductible. Fees for fighting against the award of alimony are not deductible.
If the parties are married on December 31, they are treated as married for tax purposes. They may file a tax return as “Joint”, or as “Married Filing Separately”. Joint return filing rates are the lowest of any filing method. Married Filing Separately rates are the highest.
There is an exception for a parent who has been separated from the other parent for the last six months of the year, and provides a home for one or more dependent children. The separated parent can file as “Head of Household”, with rates lower than Married Filing Separately, and even lower than Single filing. The other parent, unless he or she also provides a home for another child or children, must file as Married Filing Separately.
When the divorce is final, the custodial parent providing a home for the dependent children can file as Head of Household. The non-custodial parent can file as Single.
Federal Income Tax – Dependency Exemption
Posted on April 19th, 2016
The dependency exemption is a deduction of longstanding in the Internal Revenue Code. For 2017 the deduction for each dependency exemption is $4,050.
Two categories of people qualify to be claimed as dependents: Qualifying Children and Qualifying Relatives. Read the definitions below and you will find that “Qualifying Child” includes brothers and sisters and nephews and nieces and stepchildren and children of stepchildren as well as children and their descendants, and “Qualifying Relatives” includes people who live with the taxpayer whether or not they are related.
Five tests must be met in order to claim a dependency exemption:
- The taxpayer must provide more than one-half of the individual’s support.
- The individual is a relative or a member of the taxpayer’s household
- The individual earns less than the current year’s exemption amount (This test is no longer applied to taxpayer’s children).
- Individuals cannot be treated as dependents if required to file a joint return with their spouses.
- The individual is either a citizen or resident of the United States, or a resident of a country contiguous to the United States.
A Qualifying child must meet the following tests:
- Relationship: The individual must be a child of the taxpayer or a descendant of such a child, or a brother, sister, stepbrother, or stepsister of the taxpayer, or a descendant of any such relative. Adopted children or foster children placed by an authorized placement agency or by judgment, decree or court order are treated as natural born children.
- Age: The individual must, at the end of the taxable year, be under 19 (under 24 if a full time student), or permanently and totally disabled.
- Domicile: The individual must have the same principal place of abode as the taxpayer for more than half of the year (not counting absences because of illness, education, business, vacation, or military service).
- Support: The individual cannot provide more than half of his or her own support.
- Citizenship/Residency: The individual must be either a citizen or resident of the United States or a resident of a country contiguous to the United States.
Child of Divorce Parents:
A child of divorce parents (including parents separated under a written separation agreement, or living apart at all times during the last six months of the tax year) is claimed as a dependent by the custodial parent (the parent having custody for the greatest period) unless that parent signs a statement releasing the exemption to the non-custodial parent and the non-custodial parent attaches the statement to his or her tax return. IRS has designed Form 8332, Release/Revocation of Release of Claim to Exemption for Child by Custodial Parent, to be used for releasing the exemption to the non-custodial parent.
If a child qualifies as a dependent of multiple taxpayers, the taxpayers can agree as to who will claim the exemption. If more than one person claims a qualifying child as a dependent, tiebreaker rules determine who will get the exemption: If one of the taxpayers is the individual’s parent, the parent gets to take the exemption. If both taxpayers claiming the child are its parents, then the parent with whom the child lived for the longest period during the year. If neither taxpayer is the child’s parent, or if the child lived an equal time with each parent, the taxpayer with the highest Adjusted Gross Income is entitled to the exemption.
A Qualifying Relative is any of the following:
- A child or a descendant of a child.
- A brother, sister, stepbrother, or stepsister.
- The father or mother, or an ancestor of either.
- A stepfather or stepmother.
- A son or daughter of a brother or sister of the taxpayer.
- A brother or sister of the father or mother of the taxpayer.
- A son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law, or sister-in-law.
- An individual who, for the taxable year of the taxpayer, has the same principal place of abode as the taxpayer and is a member of the taxpayer’s household.
If a child fails the test to be claimed as a child, he may still qualify to be claimed as Qualifying Relative (an unemployed child over age 19, for instance).
Note that a person who is a member of the taxpayer’s household for the entire year will be a “Qualifying Relative” whether or not related to the taxpayer.
Multiple Support Agreements:
A group of taxpayers who jointly provide more than one-half of the support a Qualifying Relative are allowed to agree on which of them will claim the dependency exemption on the following conditions:
- If no one person contributed more than half of the individual’s support.
- Each member of the group that provided more than one-half of the individual’s support would have been able to claim the individual as a dependent except for the fact that his contribution was less than one-half of the individual’s support.
- The claiming taxpayer must have contributed more than 10% of the individual’s support.
- Each member of the group who contributes more than 10% of the individual’s support signs a written declaration that he will not claim the individual as a dependent for the year in question.
The Taxpayer claiming the exemption attaches Form 212—Multiple Support Declaration to his tax return naming and providing taxpayer identification numbers for the other members of the group providing support, and declaring that he has the a written declaration from each that he or she will not claim the individual as a dependent for the year in question. The taxpayer is required to produce the declarations if audited.
Head of Household:
Taxpayers providing homes for certain dependents are allowed to claim Head of Household filing status, which give them the benefit of tax rates lower than those of a single person (but not as low as people filing joint returns).
Under the current law a taxpayer can claim Head of Household status if he pays more than one-half of the costs of maintaining a household which is the principal place of abode for more than one-half of the year for a Qualifying Child (whether or not such child can be claimed as a dependent), or an individual (Qualified Relative) for whom the taxpayer may claim a dependency exemption.
(Under a separate provision, if a taxpayer pays more than half of the support of his parent, he may claim the dependency exemption for the parent and claim Head of Household status even if the parent does not live with the taxpayer.)
Deduction Phaseout for High Income Taxpayers:
The deduction for dependents phases out in 2016 for taxpayers with over $259,400 in income ($311,300 for joint filers).
Federal Income Tax – Appeal Your Audit
Posted on February 20th, 2016
If you don’t agree with the results of a tax audit, appeal! The Appeals Division is the only place to appeal audit results within the Internal Revenue Service. The Appeals Division’s job is to reduce the number of unagreed cases. Move to Appeals, and you will get several chances to improve or correct the findings of the audit.
Appeals wants to settle cases. That is its reason for existence. Section 18.104.22.168-2 C of the Internal Revenue Manual states:
“Appeals accomplishes this mission by considering protested cases, holding conferences, and negotiating settlements in a manner which ensures the following:
As many non-docketed cases as possible are closed while in non-docketed status, and as many docketed cases as possible are closed without trial.”
Non-docketed cases are cases that have not yet been filed in Court. Appeals measures its success by how many cases it can settle without court filings.
Prepare, Prepare, Prepare
While you are appealing, you can further prepare your case. You prepared for the tax audit. Now you have just gone through the audit. You have been told which items the auditor accepts, and which he rejects and why. At the appeals level, you will be allowed to present ANY arguments or facts you have that will improve your position, even if you did not present them previously. (This is different from the court system, where you present your best case first, or you lose the opportunity.)
If you can get a letter from your employer to support your position, do it. If the connection between your expense and your business is questioned, work on that connection. If more supporting documents are needed, try to obtain them. Use your imagination. If detailed mileage logs are not available for all of your mileage, try to support your mileage for one month and convince the Appeals Officer to accept it as “typical.” Use your appointment book to show your travel. Concentrate on the areas the auditor did not accept.
Again, if you remember or find issues that are in your favor, you are allowed to raise them. If you forgot to deduct some business expenses, tell the Appeals Officer. The Appeals Officer is directed not to raise new issues on behalf of the government, but to accept any new information in the taxpayer’s favor. Inernal Revenue Manual Section 22.214.171.124.4-1 states:
“Appeals gives full, fair and impartial consideration to the merits of each new issue raised by a taxpayer. If such an issue is based upon important evidence, such evidence is ordinarily referred to IRS Compliance for verification.”
Opening an Appeal
The normal income tax examination involving less than $25,000 in tax can be appealed with a simple letter stating what issues you don’t agree with, and why, and requesting Appeals consideration.
If your tax controversy exceeds $25,000, or involves issues other than the normal income tax examination (retirement plan issues, partnerships, S Corporations, appeals of liens, levies, seizures, or installment agreements) you will need to file a formal “Protest” of Internal Revenue Service’s decision or action. A formal Protest is simply a letter identifying you, a statement that you want to appeal IRS’s findings to the Appeals Office, a copy of the notice of the IRS findings, the time periods involved, a list of the changes you don’t agree with, a statement of the facts that support your position, and a statement of the law that supports your position. The protest must be signed under penalties of perjury.
Internal Revenue Service states the mission of the Appeals Office as follows:
“The Appeals Mission is to resolve tax controversies, without litigation, on a basis which is fair and impartial to both the Government and the taxpayer and in a manner that will enhance voluntary compliance and public confidence in the integrity and efficiency of the Service.”
Resolution of tax controversies, “on a basis which is fair and impartial” claims to be a place where you can receive “justice” in the tax system. You would assume that, in a “fair and impartial” system, if you had a better argument than IRS on a tax issue, IRS would back down and concede the issue. It doesn’t work out that way. The Appeals Officer, rather, is working for Internal Revenue Service. The Appeals Officer has the authority to compromise issues with taxpayers. The way in which the Appeals Officer evaluates issues is to calculate the government’s chance of winning each issue, and then offering a settlement to the taxpayer based on that chance of winning.
Hazards of Litigation
If the Appeals Office feels that you have a 60% chance of winning an issue in court, it will not concede the issue. Appeals Officers have the authority to split the issue. They may settle such an issue with the Taxpayer by having the taxpayer pay 40% of the tax IRS billed (in this example) in the examination process. This process is called taking into account the “hazards of litigation.” Examination level employees are supposed to raise all issues on which Internal Revenue Service has any chance of winning in court, and Appeals Officers are authorized to consider how strong the government’s case is.
As explained in Regulation 601.106 (f):
|“(2) RULE II. Appeals will ordinarily give serious consideration to an|
|offer to settle a tax controversy on a basis which fairly reflects the|
|relative merits of the opposing views in light of the hazards which would|
|exist if the case were litigated. However, no settlement will be made|
|based upon nuisance value of the case to either party. If the taxpayer|
|makes an unacceptable proposal of settlement under circumstances|
|indicating a good faith attempt to reach an agred disposition of the case|
|on a basis fair both to the Government and the taxpayer, the Appeals|
|official generally should give an evaluation of the case in such a manner|
|as to enable the taxpayer to ascertain the kind of settlement that would|
|be recommended for acceptance.”|
Taking the hazards of litigation into account should leave the taxpayer in a better position than if he accepted the examiner’s conclusions, where the examiner raised all issues on which Internal Revenue Service had any chance of winning. But from the taxpayer’s perspective, wouldn’t it be fairer if all cases where the taxpayer has probably interpreted the law correctly were dropped?
As part of its efficiency drive, Internal Revenue Service would like to settle as many cases as possible with as little taxpayer contact as possible. Appeals are handled by correspondence, telephone or in person. If you can manage it at all, arrange an in-person conference. You will be more than a number to the Appeals Officer after you have conferred for an hour about your tax situation. You will have a better chance to explain your position, and especially to answer the Appeals Officer’s questions. You will be able to see where your arguments are not getting through, and be able to expand them.
Internal Revenue Service makes a big point of stating that interest and penalties continue while you are appealing their decisions. In point of fact, the tax audit usually doesn’t happen until all penalties have reached their maximum. Interest continues, but is calculated at a rate related to the Treasury borrowing rate, so is not severe.
The Appeals level can be skipped. If you don’t request to go to Appeals, you will receive a letter that states that you have 90 days to appeal the results of the audit to the Tax Court. Remember the examiner is supposed to raise all questions on which the government might win. The bill you get after the examination will be the highest you can possibly get in the system. Go to Appeals if you have any strong arguments, and you may get a better result.
Appeals Officers settle about 9 out of 10 cases they handle, so your chance of getting a result you can live with is pretty good.
If you skip Appeals, or if you don’t resolve your case in Appeals, you will receive a “90 day letter” which advises you that you have 90 days to appeal your case to the Tax Court. Pay attention to the due date for your filing with the Tax Court. If you miss the date, the Tax Court is deprived of jurisdiction, so you have lost your best chance to resolve your case in your favor in court.
When your case is “docketed” in Tax Court, the case is assigned to an attorney to prepare it for trial. The attorney’s job is to plan and gather evidence to present the case to the Tax Court. The attorney will gladly confer with the taxpayer, in an attempt to “narrow the issues” that the Court will have to address. The taxpayer can use this as another opportunity to resolve the case, short of going to Court, although the attorney will be working with the Appeals Officer that originally considered the case.