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PART II: Return Filing
Problems
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- With 210 million business and individual tax returns filed annually,
it should come as no surprise that many of us make mistakes that cost both
additional taxes and penalties. The following are examples of the most
common filing mistakes and what can be done to avoid them.
- PROBLEM 2:
FEAR OF AN AUDIT
- Because I am afraid of being audited, I do not claim legitimate tax
deductions.
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- CONSEQUENCE:
- You pay additional taxes you do not owe because you believe by overpaying,
you can avoid problems later.
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- SOLUTION:
- Audit-proof your tax return. You do not avoid audits by failing to
claim deductions you are legally entitled to claim. All you accomplish
is increasing your tax debt. Too many tax professionals insist that when
you have deductions that "appear" to be too high, you should
not claim them lest you "trigger an audit." Don't listen to them.
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- While it is true that high deductions can trigger an audit, it is not
true that failure to claim them solves the problem. In fact, failure to
claim deductions only creates a second problem: higher taxes. Instead of
forbearance when it comes to claiming deductions, simply audit-proof your
tax return at the time of filing. By audit-proofing the return, you claim
every deduction you are legally entitled to claim and you reduce your tax
debt to its lowest legal level and you do it all without risk.
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- To audit-proof your tax return, use IRS Form 8275, Disclosure Statement.
Like many forms that actually help citizens, Form 8275 is not found in
the IRS' forms package, nor is it found on the wall in the bank or the
post office. This is a form the IRS does not like to discuss. I call it
the audit-proof form because it allows you to provide information with
your tax return that answers any potential questions in the return. By
doing so, you give the IRS the answers needed to address its questions
before the case is assigned for a face-to-face audit.
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- Use Form 8275 anytime you have a potentially questionable tax deduction.
Anytime you hear your tax accountant or your own inner voice say, "Don't
raise a red flag, think of Form 8275 instead of crossing the deduction
off your list. By using Form 8275, you ensure that you do not pay more
taxes than you owe.
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- Please note that Form 8275 is not a process of sneaking unlawful claims
past the IRS. Do not claim a deduction you are not legally entitled to
claim. But if you are legally entitled to the deduction, do not hesitate
to claim it merely because the IRS might question it. Form 8275 gives you
the best of all worlds. You can lower your tax, increase your deductions
and do it without risk. For more information on the effective uses of Form
8275, please see my book The IRS Problem Solver.
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- PROBLEM 3:
I CANNOT FILE MY TAX RETURN ON TIME
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- CONSEQUENCE:
- Return is filed late or not at all, resulting in late filing penalties,
interest and possible enforcement action.
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- SOLUTION:
- Obtain an extension of time to file. An automatic extension of time
to file the return is available by using Form 4868, Application for Automatic
Extension of Time to File Individual Income Tax Return. Filing Form 4868
on or before the filing deadline provides an extension of four months to
file. The deadline is thus moved from April 15 to August 15. No reason
is needed to obtain the extension. As the title suggests, it is automatic.
Use it when you are missing records or other information needed to file
accurately.
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- Form 4868 requires payment of any tax due. The form is not an extension
of time to pay. In fact, the IRS can disregard the filing extension and
treat your return as though it were filed late if you fail to pay the tax
by April 15. Do not use Form 4868 if you owe money you cannot pay. We discuss
that later.
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- Form 4868 allows you to estimate the amount of tax due. Mail the estimate
with the extension at the time of filing. As long as you pay what you reasonably
estimate is your tax by April 15, you avoid the risk of the IRS disallowing
the extension.
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- A second extension is available if you cannot get your return filed
by August 15. That extension is sought with Form 2688, Application for
Additional Extension of Time to File Individual Income Tax Return. Use
this form if you run out time on the first extension. However, Form 2688
is not automatic and it affords a maximum two-month extension. File it
in advance of the August 15 deadline so if the IRS denies it, you have
time to file before August 15, avoiding late filing penalties.
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- PROBLEM 4:
I CANNOT AFFORD TO PAY ALL MY TAXES BY APRIL 15
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- CONSEQUENCE:
- Penalties and interest are added and you subject yourself to a pattern
of non-filing and non-payment.
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- SOLUTION:
- Obtain an extension of time to pay the tax. One of the largest problems
citizens face is the inability to pay the tax on time. Each year, in excess
of 13 million penalties for failure to pay taxes on time are assessed.
Even worse, the addition of compound interest on the entire unpaid balance
often transforms a difficult situation into an impossible one.
- The solution to the problem lies in a very simple procedure the IRS
denies exists. It is the right to seek an extension of time to pay the
tax. Do not confuse this with the extension of time to file which we discussed
earlier. Please recall that Form 4868, the filing extension, does not provide
an extension of time to pay. To obtain a payment extension you must use
IRS Form 1127, Application for Extension of Time for Payment of Tax. The
IRS denies that Form 1127 exists. That is why I have included Form 1127
in our Forms Kit and Resource Guide.
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- The payment extension is not automatic. You must show that you do not
have the money to pay the tax on time, that you exercised reasonable business
care in providing for your tax debt but due to circumstances beyond your
control, you are unable to pay on time. You must also show that coming
up with the money will cause a financial hardship. This is not difficult
to do when you have little or no cash available and no assets that can
be readily liquidated to pay the tax. Form 1127 is quite simple and the
instructions make it clear what must be done to comply with IRS' requirements.
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- File Form 1127 in advance of the April 15 payment deadline. If the
application is granted, you are afforded up to six additional months to
pay the taxes, without penalties.
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- PROBLEM 5:
I NEED MORE THAN A PAYMENT EXTENSION
- I owe too much and need an installment agreement.
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- CONSEQUENCE:
- IRS enforces collection by issuing wage and bank levies, potential
property seizures and filing federal tax liens.
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- SOLUTION:
- Obtain an installment agreement to pay over time. One of the top ten
reasons citizens contact the IRS' Taxpayer Advocate is for help in establishing
installment agreements. The IRS is notorious for providing misinformation
regarding the right to and procedure for obtaining installment agreements.
In the meantime, it enforces collection with wage and bank levies, often
putting people into a situation where they must choose between paying their
taxes and feeding their families.
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- The right of an installment agreement exists when the citizen can demonstrate
that he does not have the cash or liquid assets available to pay the bill.
It is the citizen's duty to seek the agreement, however. The IRS need not
present the opportunity though it sometimes may suggest that the right
is available.
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- Use Form 9465, Installment Agreement Request, to seek an installment
agreement. As IRS forms go, this one is about as easy as they get. You
simply include your name, address, social security number and other identifying
information. State the tax year in question and how much you owe. Finally,
state how much you are able to pay each month.
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- There are two ways to use Form 9465. The first is if you cannot pay
a current tax, which is the tax for the return you are about to file. Rather
than failing to file the return (a mistake made by too many each year),
file the tax return on time--thus avoiding the failure to file penalty--but
include Form 9465 as an attachment to the return. Put it right on top,
in plain view, so the IRS can readily see it. This forestalls enforced
collection action and sets the wheels in motion to formalize the installment
agreement.
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- Before the IRS formalizes the agreement, it often seeks financial data
from the citizen. Remember, you must prove you do not have the income or
assets to pay on time. Provide proof in the form of a financial statement.
The IRS uses Form 433-A as a financial statement for individuals and Form
433-B as the financial statement for businesses. Both are included in our
Forms Kit and Resource Guide.
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- The financial statement provides a listing of all one's income and
monthly expenses, as well as assets and liabilities. From this data, IRS
determines the amount of the monthly payment. The payment amount is fixed
by subtracting your monthly living expenses from your net take home pay.
The difference, referred to as "disposable income," becomes the
amount of the payment. While the agency tries to impose arbitrary expense
guidelines upon citizens, the reality is you have the right to fix your
monthly expenses based upon your family's needs, not the IRS' whim.
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- Once an installment agreement is in place, the IRS can neither enforce
collection nor modify or terminate the agreement unless,
- you provided false or incomplete information in Form 433-A or B,
- your financial circumstances have significantly changed,
- you fail to make a payment on time,
- you fail to pay another tax on time,
- you fail to provide updated financial data when asked, or
- the IRS believes that collection of the tax is in jeopardy; that is,
you are taking affirmative steps to defeat payment of the tax, such as
hiding assets or preparing to leave the country.
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- Now that the installment agreement is in place, you avoid the potential
disaster of enforced collection action. However, because interest and penalties
continue to build even while you pay on time, it is in your best interest
to either pay the tax as quickly as possible or explore other avenues for
settling the debt. The latter should include consideration of the so-called
Tax Amnesty programs. These are programs that allow you to reduce or eliminate
your tax debt based upon your ability to pay. They are especially helpful
for those who have substantial back tax debts and are making just minimum
payments. In that case, the interest and penalties often outstrip the payment
and you actually end up going backwards. I discuss the Tax Amnesty programs
in Part VI of this Problem Solver.
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- For those contemplating or currently negotiating an installment agreement,
I strongly recommend my book, How to Get Tax Amnesty.
Chapters five and eleven of the book take the reader step-by-step through
the process of seeking, negotiating and living under an IRS installment
agreement. I discuss specific strategies for dealing with the IRS' demands
for exhaustive financial data, how to prove monthly living expenses and
how to appeal the denial or termination of an installment agreement, if
it comes to that.
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