Unreported income / IRS audit

[steve7150]

Hi,

My client has an IRS audit for 2006 and i just found out they have about 18K in unreported rental income. My question is how to declare it? Should we voluntarily disclose it up front , should we disclose it in writing first, should we wait for them to ask us. Looking back it's obvious that due to the size of the itemized deductions something was missing and they mailed me their info and no one mentioned it. I think each spouse thought the other mentioned it and i did'nt have a questionaire to fill out ahead of time.
Any imput would be very appreciated, thanks. Steve

[BOB W]

Was this the first year that they had rental income?

[MAMalody]

What is being audited? If the rental is being audited or the income is being audited, that would be the appropriate time to mention this. If the auditor should ask up front, if there is anything that you want to make sure gets covered, or something like this, that would be the time to bring it up. To be honest, since rental expenses go on a Schedule E I am not sure what increased itemized deductions have to do with undeclared rental income. If you are saying that there are itemized deduction entries that are rental expenses then you may have a larger problem, that being preparer penalties or even potential civil fraud penalties for your client in reference to the undeclared income.

If this is the first year the rental was there, then you are in a much better position.

[JohnH]

From the info in the original post, it sounds like maybe their interest expense and property tax deductions on Schedule A may have been unusually high.

[dsi]

Ask the auditor if Senator what's his name got a penalty for unreported income on his rentals.

[Ann]

IRS Audit

Hi,

My client has an IRS audit for 2006 and i just found out they have about 18K in unreported rental income. My question is how to declare it? Should we voluntarily disclose it up front , should we disclose it in writing first, should we wait for them to ask us. Looking back it's obvious that due to the size of the itemized deductions something was missing and they mailed me their info and no one mentioned it. I think each spouse thought the other mentioned it and i did'nt have a questionaire to fill out ahead of time.
Any imput would be very appreciated, thanks. Steve

Steve, You need to be up front immediately, period. It looks like no Schedule E was completed at all? I would locate all info pertaining to the rental property - have it ready, and either bring it to their attention before they come or as soon as they are in the door. If it is misclassifications, you may lose some itemized deductions, but then again, not pay as much or any tax on the rental property income. They should have received some kind of 1099? What type of property did they rent - may be able to depreciate, take utility expenses, etc. Have fun.

[taxea]

I would call the number on the notice and request a 60 day waiver of time to correct this situation. Then I would amend the return to include the income and make all necessary adjustments/corrections to the original return. If a Sch E was not prepared include one and move any deductions taken on the Sch A to the Sch E as applicable.taxea

[JohnH]

Dave:
That would be Congressman Charlie Rangel you're referring to, I believe. Chairman of the House Ways & Means Committee - writers of tax legislation. But hey, why would he be expected to know anything about reporting rental income? Anybody can make a mistake...

[steve7150]

What is being audited? If the rental is being audited or the income is being audited, that would be the appropriate time to mention this. If the auditor should ask up front, if there is anything that you want to make sure gets covered, or something like this, that would be the time to bring it up. To be honest, since rental expenses go on a Schedule E I am not sure what increased itemized deductions have to do with undeclared rental income. If you are saying that there are itemized deduction entries that are rental expenses then you may have a larger problem, that being preparer penalties or even potential civil fraud penalties for your client in reference to the undeclared income.




MA, there were two mortgages on the same house which is their residence but the interest was so high they ended up with negative taxable income of 28K. I did'nt have any 1099s and they only mailed their info to me but i should have taken the time to discuss it with them. Even with adding the rental income they would only lose their earned income tax credit (2K).
I know i should have been much more careful but since there was not any documentation i don't see why i might be subject to preparer penalties.
The audit is on 1/9 and we have gotten a 10 day postponement already and they refuse to postpone it anymore.
Anyway any other suggestions are appreciated, thanks for all the responses.

[steve7150]

BTW the thing that is actually being audited is the mortgage interest for which i have 1098s but they paid by bank checks and one bank took over another bank so i only have copies of the bank checks for the last 3 mos of 2006 as of now.

[BOB W]

BTW the thing that is actually being audited is the mortgage interest for which i have 1098s but they paid by bank checks and one bank took over another bank so i only have copies of the bank checks for the last 3 mos of 2006 as of now.

Buy the way, this will open up their 2007 tax return as well if rental income becomes an issue and maybe 2005.

[JohnH]

Quick off-the-top-of-my-head reaction here.

They were thorough enough to give you info on interest on a first & second mortgage on the main home (and maybe some property taxes on multiple properties as well) but conveniently "forgot" to tell you about $18K in rental income and they "happened" to get an EIC of about $2K based on the numbers they provided you. Excuse me for being so pessimistic, but you may need to do a little more digging before you go into the audit. I'm not accusing your client of anything, but there may be some more surprises for you once this thing gets under way.

[joanmcq]

The IRS are doing a lot of mortgage interest audits right now. Its not whether they paid the interest, it is whether it is actually deductible. You'll have to look into whether they refi'd over 100k in equity over accquisition debt. So stop looking for cancelled checks and get the purchase docs and refi docs for all of the refis.

Then with the negative taxable income, its very possible they will want to know what the heck they were living on.

[geekgirldany]

I agree do some more digging. I had two customers that had large mortgage interest deductions. I started asking questions and I found out that one was investment interest and the other was refi for "remodeling" the house. The one that said it was for remodeling the house picked up their information and went to someone else.

Over the years and through this forum I have learned alot about dealing with customers. When I look at the information and prepare the return... if it is something that stands out I will start asking questions. If I have doubts in my mind then the IRS will also.

[taxea]

Unreported income / IRS audit

If the IRS is questioning the 1098 the client must have received a copy at the end of 2006. If the original return preparer deducted the 1098 in the wrong place on the return then this is probably what the IRS is questioning or maybe, if you only had checks to determine the amount, perhaps the figures don't match what the IRS has.

The IRS does these income/expense comparisons by computer so if they don't see the exact amount reported as they have documents for they will question it. Because of this I tend to be very detailed in the way of listing each 1098 by mortgage company or property address. i.e. 1098 from Wells Fargo Mortgage for 235 Main St.

Same with the unreported income. If it appeared on the return but not on the proper line, the IRS will question it. Then it is just a matter of correcting the entry on an amended return.

Hope this helps.taxea