IRS Mail Tax Audits

IRS Mail Tax Audits

You're now almost four times as likely to conduct your tax audit by mail, as you are to sit down with the tax man.
Of the more than 1.6 million Americans who were slapped with audits last year, 78% dealt with correspondence audits, while only 22% were asked to come in for an in-person examination.
That is a 13% rise in audits-by-mail from 2009, and a 93% jump compared to 2003. In 2000, the chances of getting a correspondence audit were less than 2 to 1.
"When people think of audits, they think of being in an office and going to war with someone from the IRS," said Thomas Cooke, a professor of accounting and business law at Georgetown University. "Years ago you could almost guarantee you would have to go in and see someone to do it, but this isn't the case anymore."
Why the shift? Because correspondence audits are cheaper for the IRS. Plus, Cooke said many people take action as soon as they get the audit notice in the mail, in hopes that it won't escalate to a visit from Uncle Sam.
"People are scared to death when they get these letters, so they do everything they can to resolve the problem right away to make it not go further," he said.
While a face-to-face examination with an IRS agent can involve going through an entire return, correspondence audits usually ask taxpayers to provide information about very specific items on a tax return, like income, expenses or deductions.
"It's an effort to try to cut costs and focus their efforts, and there are pluses and minuses to it," said Ed Smith, a tax partner at BDO. "A plus would be if there are only one or two items the IRS is interested in, because they can focus their time and effort on those items and it's more efficient for both parties. On the other hand, depending on the complexity and detail needed to support something, it may be difficult for the taxpayer to respond to a correspondence audit and easier to go over things in person."
Even if the information the IRS is requesting is basic, the complicated jargon often makes it hard for people to understand that the letter they have opened is even an audit, national taxpayer advocate and IRS watchdog Nina Olson said in an interview with CNN Money.
Out of a sample of 754 taxpayers who claimed the Earned Income Tax Credit and were audited, more than a quarter of them had no idea they were even being audited, the Taxpayer Advocate Service's most recent survey found. Nearly 40% of the same respondents didn't know what information the IRS was asking them to provide.
And that's if they even received the audit in the first place. The IRS rarely checks to make sure letters have been sent to the correct addresses -- and about 10% of overall mail from the IRS is undeliverable, TAS has found.
In addition, 70% of people surveyed by TAS said they prefer not to communicate with the IRS through correspondence audit, and would rather communicate in-person or over the phone.
But the IRS argues that resolving tax-return issues by mail can really benefit both taxpayers and the IRS, saying that mail audits are mainly sent when there are fewer issues with a return and a full in-person audit isn't required.
"In comparison to other audits, correspondence examinations require fewer resources from either the IRS or taxpayers, are considerably less invasive for taxpayers, and effectively contribute to the tax administration objectives of fostering voluntary compliance and reducing the Tax Gap," the IRS stated in response to a recommendation from TAS to conduct fewer mail audits.
And the fact that the IRS is "vastly understaffed" and currently looking at possible budget cuts that would strip the agency of $600 million in funding is only likely to cause mail audits to continue to rise, said Olson.
"I would love to see the IRS go back to doing more field audits -- in most cases, it's less burdensome for taxpayers if they have someone they can talk to," she said. "But the IRS is moving in the opposite direction, and now with proposed budget cuts, there will be greater pressure to use more automation."

The new 2010 IRS Form 1040

April 18 is the 2010 due Date.
Emancipation Day, a District of Columbia holiday, falls on April 15, deferring the tax filing deadline to April 18 and by filing Form 4868 on or before April 18 can extend your deadline to October 17.
No More Phase-Outs for Itemized Deductions and Exemptions
Phase-outs were completely repealed for 2010 as part of the Bush-era tax cuts, for example, write-offs for the most popular itemized deduction items (including mortgage interest, state and local income and property taxes, charitable donations, personal and dependent exemption deductions) You can now write off the full amount of your itemized deductions and exemptions on your 2010 Form 1040 without any worries and without having to fill out phase-out worksheets to penalize yourself. The recent tax cut extension legislation repealed the phase-outs for 2011 and 2012 as well.
Liberalized Adoption Credit
For 2010, the maximum adoption credit was increased to $13,170 (up from $12,150 in 2009). In addition, the credit was made 100% refundable for the 2010 tax year (previously, it was nonrefundable). That means you'll receive a check for any leftover adoption credit after your federal income tax bill has been reduced to zero. To claim the credit, fill out Form 8839 (Qualified Adoption Expenses), and enter the credit on line 71 of Form 1040.
One-Time Break for Self-Employed Individuals
Self-employed folks can generally deduct their health insurance premiums on page 1 of Form 1040 (use line 29 for 2010). The deduction reduces their federal income tax bills, which is nice. However, the self-employed have never been allowed to deduct those premiums when calculating their self-employment tax bills on Schedule SE. Good news: for 2010 only, you can deduct health insurance premiums on line 3 of Schedule SE. So those premiums will reduce both your income tax bill and your SE tax bill. Unfortunately, this break will not be available for 2011 and beyond unless Congress extends it.
Home buyer Credit Repayment Rules
As I explained in an earlier column, you may have to repay part or all of the credit claimed for a 2008 or 2009 home purchase with your 2010 Form 1040.
In most cases, however, only those who purchased homes in 2008 will be affected. They will generally have to repay 1/15 of the credit with the 2010 Form 1040. If this rule impacts you, fill out Form 5405 (First-Time Home buyer Credit and Repayment of the Credit), and enter the repayment amount as an addition to your tax bill on line 59 of Form 1040.
Real Estate Tax Deduction
For 2008 and 2009, unmarried individuals who did not itemize could write off up to $500 of state and local real property taxes by claiming an increased standard deduction. Married joint-filing couples could write off up to $1,000. This add-on standard deduction deal for real estate taxes expired at the end of 2009, and it was not reinstated for 2010.
Sales Taxes Deductions for on New Vehicle Purchases
The 2009 Stimulus Act created a temporary write-off for non-itemizers who paid state and local sales taxes on new vehicles purchased between 2/17/09 and 12/31/09. The write-off came in the form of an additional standard deduction allowance. Similarly, itemizers were allowed to claim an extra itemized deduction for such taxes. Both breaks lapsed at the end of 2009, and they were not reinstated for 2010.
Break for Unemployment Benefits Is Gone
In 2009, the first $2,400 of unemployment benefits was federal-income-tax-free. This break was not continued for 2010. Therefore, 100% of 2010 unemployment benefits generally must be reported as income on Form 1040 (use line 19).

Choosing A Tax Preparer

IRS Tax Tip 2011-06, January 10, 2011
If you pay someone to prepare your tax return, the IRS urges you to choose that preparer wisely. Taxpayers are legally responsible for what’s on their tax return even if it is prepared by someone else. So, it is important to choose carefully when hiring an individual or firm to prepare your return. Most return preparers are professional, honest and provide excellent service to their clients.
Here are a few points to keep in mind when choosing someone else to prepare your return:
1. Check the person’s qualifications. Ask if the preparer is affiliated with a professional organization that provides its members with continuing education and resources and holds them to a code of ethics. New regulations require all paid tax return preparers including attorneys, CPAs and enrolled agents to apply for a Preparer Tax Identification Number — even if they already have one — before preparing any federal tax returns in 2011.
2. Check on the preparer’s history. Check to see if the preparer has a questionable history with the Better Business Bureau and check for any disciplinary actions and licensure status through the state boards of accountancy for certified public accountants; the state bar associations for attorneys; and the IRS Office of Professional Responsibility for enrolled agents.
3. Find out about their service fees. Avoid preparers who base their fee on a percentage of your refund or those who claim they can obtain larger refunds than other preparers.
4. Make sure the tax preparer is accessible. Make sure you will be able to contact the tax preparer after the return has been filed, even after the April due date, in case questions arise.
5. Provide all records and receipts needed to prepare your return. Most reputable preparers will request to see your records and receipts and will ask you multiple questions to determine your total income and your qualifications for expenses, deductions and other items.
6. Never sign a blank return. Avoid tax preparers that ask you to sign a blank tax form.
7. Review the entire return before signing it. Before you sign your tax return, review it and ask questions. Make sure you understand everything and are comfortable with the accuracy of the return before you sign it.
8. Make sure the preparer signs the form and includes their PTIN. A paid preparer must sign the return and include their PTIN as required by law. Although the preparer signs the return, you are responsible for the accuracy of every item on your return. The preparer must also give you a copy of the return.
You can report abusive tax preparers and suspected tax fraud to the IRS on Form 3949-A, Information Referral or by sending a letter to Internal Revenue Service, Fresno, CA 93888. Download Form 3949-A from http://www.irs.gov or order by mail at 800-TAX-FORM (800-829-3676).

Tax Tips 2010 - 2011

Tax Law Changes
The American Recovery and Reinvestment Act (ARRA) provided a temporary increase in the earned income tax credit (EITC) for taxpayers with three or more qualifying children and increased the beginning point of the phase-out range for the credit for all married couples filing a joint return for 2009 and 2010. The Tax Relief and Job Creation Act of 2010 extended these changes to 2011 and 2012.
The Education Jobs and Medicaid Assistance Act of 2010 repealed the Advance EITC. It is no longer available to workers. Individuals who received Advance EITC during any tax year must file a tax return to report the payments even if they owe no tax or are not otherwise required to file.
Tax Year 2010 Income Limits
Earned income and adjusted gross income (AGI) must each be less than:
• $43,352 ($48,362 married filing jointly) with three or more qualifying children
• $40,363 ($45,373 married filing jointly) with two qualifying children
• $35,535 ($40,545 married filing jointly) with one qualifying child
• $13,460 ($18,470 married filing jointly) with no qualifying children
Tax Year 2010 maximum credit:
• $5,666 with three or more qualifying children
• $5,036 with two qualifying children
• $3,050 with one qualifying child
• $457 with no qualifying children
Investment income must be $3,100 or less for the year.
The maximum Advance EITC workers could receive from their employers during 2010 was $1,830.
Preview of Tax Year 2011
Earned Income and adjusted gross income (AGI) must each be less than:
• $43,998 ($49,078 married filing jointly) with three or more qualifying children
• $40,964 ($46,044 married filing jointly) with two qualifying children
• $36,052 ($41,132 married filing jointly) with one qualifying child
• $13,660 ($18,740 married filing jointly) with no qualifying children
Tax Year 2011 maximum credit:
• $5,751 with three or more qualifying children
• $5,112 with two qualifying children
• $3,094 with one qualifying child
• $464 with no qualifying children
2011 Investment income must be $3,150 or less for the year

2010 Tax Changes You Need to Know

Even with the availability of The Balanced Book Company, a professional tax preparation service, an estimated 40% of Americans do their own taxes. The typical do-it-yourself filer needs about 24 hours to complete the task, according to the IRS.
Commercially available software undoubtedly makes the job a lot easier, but no brand is guaranteed to be infallible. Thus, it's important for do-it-yourself filers to keep up as best they can with relevant changes to the tax code as a safeguard against errors in their tax prep software. Here are four of the most important changes to know about as you prepare your 2010 return.
1. Smaller Deductions for Business and Medical MileageYou can't write off the cost of a daily commute by car, but you can deduct other work-related mileage you're not reimbursed for. This year, for example, you'd get 50 cents a mile for driving from, say, Boston to New York City and back for a trade show. Charitable purposes are still deductible at 14 cents per mile, just like last year.
2. Better Limits on Deductions for Property Damage or Loss Due to TheftFor damaged or stolen property to be deductible, the loss amount must now only exceed $100. The "10% of AGI" rule still generally applies though.
AGI is the sum of all your income - such as wages, interest and alimony received - minus certain adjustments, such as IRA contributions, student loan interest you've paid and moving expenses.
3. Deduction for Taxes and Fees on New Motor Vehicle PurchasesIf you bought a new car, light truck, motor home or motorcycle between February 17 and December 31 of 2009? If so, in 2010 you can deduct state, local, and excise taxes related to the purchase. If your state has no sales tax, you can instead deduct other taxes or fees the purchase generated.
There are a couple limitations to know about. First, the deduction is only good on up to $49,500 of the purchase price. Second, it's phased out at certain levels of modified adjusted gross income (MAGI) - between $250,000 and $260,000 for joint filers and from $125,000 to $135,000 for other taxpayers. MAGI is your AGI plus certain deductions such as those for student loans, IRA contributions and higher education costs.
4. Bigger Deductions for Long-Term Care (LTC) Insurance PremiumsIRS rules allow LTC insurance policy owners to deduct more of their premiums in 2010 than in 2009. For example, those ages 51 to 60 can claim up to $1,230 in LTC insurance premiums this year, compared with $1,190 last year - about a 3% increase. Similar increases have been approved for other age groups as well: 40 and under, 41-50, 61-70 and 71 or over. At $330, the deduction is smallest for the 40-and-under age group. It rises progressively to a maximum of $4,110 for those ages 71 or over.
Other Tax Law ChangesOther potentially beneficial changes have been made; visit a list called "Tax Changes for Individuals" at the IRS.gov website.

Federal Tax Credits for Energy Efficiency

Federal Tax Credits for Energy Efficiency
As of February 17th, 2009, customers buying new insulation may be eligible for a federal tax credit of 30 percent of home insulation costs, up to $1,500.

The economic stimulus bill, known as The American Recovery and Reinvestment Act (H.R. 1), was signed into law by President Obama on February 17th of 2009. The economic stimulus bill will provide significant energy tax credits for energy efficient home improvements made during 2009 and 2010. Eligible home improvements include those made to roofs, windows, doors, insulation, HVAC and non-solar water heaters.
Section 1121 of the Bill states that consumers who choose to make these improvements in the coming year can receive an energy tax credit for 30 percent of the cost, up to $1,500. Eligible building envelope component tax credits for home improvements, including insulation, do not apply to consumers who are building new homes.
For insulation to qualify, the primary purpose must be to insulate. For example, aluminum siding does not qualify as insulation. A manufacturer's certification is required and the insulation must be expected to last for at least 5 years, or carry a 2 year warranty.
Consumers should keep any receipts and Manufacturer's Certification Statements for tax purposes (IRS Form 5695). The insulation must be 'placed into service' during the taxable years of 2009 and 2010. Home improvements made during 2008 are not eligible for this tax credit.

AVOIDING AN AUDIT

Suffering through an IRS audit is one of those things — like public speaking — that makes most of us sweat by just thinking about it. And unfortunately, the IRS is enforcing the nation's tax laws with renewed vigor, so you can expect a higher statistical chance of being audited in the future. How much higher remains to be seen, but I advise increased caution and attention to detail with your return.
The surest way to receive unwanted attention from the feds? Claiming what appear to be wildly excessive itemized deductions. That's always been the case. (Don't let that stop you from claiming all legitimate write-offs. If your deductions are well above the norm, just make sure you have solid documentation.) But the feds are now implementing several new measures designed to nail scofflaws who've been slipping through the tax collector's net with relative impunity. So if you've employed any of the practices described below, consider yourself warned.
Crackdown on Offshore Credit Cards
Here's a great tax-saving concept: You transfer cash into a bank account located in an offshore tax haven. You're told that you won't owe any taxes on the income or future earnings generated in the account. How do you get your hands on the money when you need it? Simple. Use your offshore bank credit card, issued as part and parcel of the deal, to hit the ATM and charge expenses. You'll then pay the resulting credit-card bills with your offshore cash stash. Sweet!
Surely, you will not be surprised to hear that this is an illegal tax-evasion scheme and that misguided participants can be caught, despite promoters' claims to the contrary. As part of the crack-down, the IRS filed several "John Doe" summonses to obtain records from 70 companies (including Disney, Hilton, and Air Canada) regarding credit-card transactions. Previously, the IRS filed seven other lawsuits to scoop up records from companies that process MasterCard transactions. Yet another lawsuit sought MasterCard International's records for accounts set up in Antigua and Barbuda, the Bahamas and the Cayman Islands. The IRS is also moving to gather information about MasterCard, Visa and American Express account holders in 77 other countries.
What the government is after, obviously, is the identity of anyone who may have signed up for offshore credit-card deals to evade taxes. The IRS believes more than a million U.S. citizens hold cards issued by foreign banks. While many folks no doubt have perfectly lawful reasons for doing so, a million seems like a suspiciously big number to the IRS — especially when a much smaller number of taxpayers admit to having foreign bank accounts. (Your Form 1040 requires you to tell the IRS if you have any foreign bank accounts.)
Other IRS Initiatives
Here's a quick summary of other major projects the IRS has on the front burner.
FIND UNREPORTED INCOME
The IRS has developed a new computer program to identify returns most likely to have underreported income. (How will it do so? Nobody knows. It's proprietary government information.) In the past, IRS computers focused more on fingering returns most likely to have overstated deductions.
Failing to report income can get you into a whole lot more trouble than puffing up your deductions a bit. Why? Because it's a very tough sell to claim you didn't realize that you have to report all your income to the IRS. In contrast, the rules for deductions are often so murky that even the most honest taxpayers can make mistakes.
Advice: Report all your income. No exceptions.
Match Schedule K-1s reporting "pass-through" income and deductions from partnerships and S corporations to returns filed by owners of these entities.The IRS believes income from partnerships and S corporations is often underreported, while deductions are often overstated. Until recently, no serious attempts at matching the more than 20 million K-1s issued annually had ever been undertaken. But this particular taxpayer holiday is now over. The new IRS matching effort means it's now critical to properly reflect Schedule K-1 tax information on owner returns.
Advice: If you own interests in partnerships and/or S corporations, consider hiring a competent professional to prepare your returns. If you insist on doing the work yourself, please be careful.
Shut down "Section 861" schemes.
Promoters of these bogus deals claim you can rely on Section 861 (which has to do with the foreign tax credit) to dodge taxes on any income that's not from foreign sources. Under this scheme, you're told to file amended returns to claim refunds of taxes previously paid.
Advice: Don't fall for these scams. You owe U.S. taxes on your U.S. income as well as any foreign-source income. Sorry about that!
Shut down abusive trust deals.
Promoters claim you can contribute business and income-generating assets to a trust, and thereby legally avoid paying federal income taxes.
Advice: Don't be a sucker. You generally owe taxes on income generated by assets you control, unless they're owned by a separate taxpaying entity, such as a corporation. Putting assets into a trust that you control won't change that. That's because the trust is considered a "grantor trust" owned by you, which means the trust's income is taxed to you.
The Last WordThere's a world of difference between taking advantage of legitimate tax-saving maneuvers (which I regularly cover here) and falling prey to a tax scam. Remember: You are required to pay only the amount of tax that you legally owe. Whittling that number down by any legitimate means is a worthy objective for anyone who wants to be considered financially astute. On the flip side, paying the taxes that you legally owe is a small price for the privilege of living in this great country.