Filing past years

[JenMO]

Client rec'd letter from State saying the IRS sent info showing she might need to file a state income tax for 2005. I called IRS for transcript and it looks like she should have filed. She said her previous tax preparer said she was ok and didn't need to, so of course she relied on that advice. IRS has not sent her a failure to file or asked for a 2005 tax return. Do I file a 2005 Federal 1040 return even though they haven't requested one? I know I have to reply to the state. What can I do about penalties and interest?

[S T]

State?

Jen Mo - Not sure what State your taxpayer is filing - but I can share a recent experience.

New Client (to me) recently had a Calif State Notice on a that expected (Calif) return.
After review there was no Federal Requirement for a return, so client didn't want to file federal only answer to the State.
After gathering the information, and calling Calif - Calif conceded and also determined that there was no tax liability and no State Requirement.

It was a "fishing expedition" for the State of California - looking for revenue.

In my clients case I have to calculate the federal return before calculating the State Return - so guess you need to calculate Fed and State - then file accordingly.

I believe you are out of the 3 year window for Refunds on Federal, however, most States have 4 year windows. No statute on Federal tax owed, so something to consider. If Federal tax liability is owed, I believe I would advise client to file both Federal and State.

If taxpayer doesn't file Federal Return, then doesn't that leave the Tax Return open for assessment?

Sandy

[erchess]

My Thoughts

I agree with ST that an unfiled return is open to being billed even after it closes for purposes of claiming refund. So I would file Federal and State as fast as I could as long as I got paid at or before the time I prepared them.

In regard to penalties and interest what I would do is have the client send in with the returns checks for as much of any tax that may be due as she can send that very day and if she is not going to pay all the tax give her in writing the procedure for sending in more when she can. Then the IRS and State will send her letters asking for P and I. I've never known a taxing agency to get the I miscalculated or to give up any of it except under the circumstances of an OIC. But I think if she writes back that she doesn't think she should have to pay penalty because she relied on so and so whose current contact info she provides they will waive some or all of the P particularly if she pays the I. Don't get me wrong, you should prepare the letter but on plain paper and for her signature as if you were her secretary. Don't put any lies in but also don't use tax jargon. Just "I do not think I should have to pay penalty because I relied on advice from such and such (firm or person at firm) who is currently practicing at address and phone number." Use the office itself if it is still in place and otherwise use the currently open location of the firm closest to the old one unless she knows something about where the individual who gave her the advice is now working.

[taxmom34]

there was no mention that federal return was not filed. if she was required to file federal she would have received notice a long time ago, am i right? just because IRS notified state could mean, she either filed federal or was not required to file federal.

[JohnH]

It most likely means that an information document (W-2, 1099-R, K-1, etc) which was submitted to the Federal was then forwarded to the state by the Federal because the state is listed in the "State" box of the information document. (The notification the state received isn't necessarily a return - it's probably a transcript of an information document).

If you know a Federal return was required but not filed, then you will need to tell the client they need to file both.

[Gretel]

there was no mention that federal return was not filed. if she was required to file federal she would have received notice a long time ago, am i right? just because IRS notified state could mean, she either filed federal or was not required to file federal.

This is what I thought until today. I am fishing around for a client to find out when his last tax return was filed. I am back to 2000 I think I need to get new POA going back to 1990. In 2001 IRS has a 1099-Misc on file for $7,000. Never asked client to file. In 2007 client started taking out IRA moneys and now he is on the hook and not being able to pay anything.

[Gretel]

I agree with John. I think a tax professional is required to prepare all tax returns for a client if there is a filing requirement. If a client disagrees I would send him away.

[Black Bart]

Seminar speculations

there was no mention that federal return was not filed. if she was required to file federal she would have received notice a long time ago, am i right? just because IRS notified state could mean, she either filed federal or was not required to file federal.

I'm kind of with taxmom here -- are you positive a federal return was not filed?

Of course John could be right (it's happened before) about it being an overlooked W-2/1099, but I got this from a state info hand-out package at a recent seminar:

"The IRS provides the Arkansas Department of Finance and Administration with a list of taxpayers who filed federal returns using Arkansas addresses. This information is then compared with Arkansas income tax records to identify individuals who filed federal returns using Arkansas addresses but did not file Arkansas returns. Letters are sent inquiring whether the taxpayer is required to file. The taxpayer should file the return in question..."

I was unaware of this. I'm assuming other states are also furnished a list.

I think I'd double-check with Practitioner Priority for a fed filing first. Clients don't always give us the straight-up version -- it's possible she had a federal refund but owed state and threw it away (that has also happened before).

[JohnH]

Bart: Are you SURE I've ever been right before?
You'd better have a cite for that.

But just in case you don't, here's a little tidbit.
(Look at the answer to Question 1)

http://www.irs.gov/govt/liaisons/article/0,,id=133087,00.html

[OtisMozzetti]

Just "I do not think I should have to pay penalty because I relied on advice from such and such (firm or person at firm) who is currently practicing at address and phone number." Use the office itself if it is still in place and otherwise use the currently open location of the firm closest to the old one unless she knows something about where the individual who gave her the advice is now working.

I would think for a minute about the perspective of that other tax preparer firm or person at firm. Probably several years ago, this taxpayer came by with God knows what information or lack of information about the gross income and other information affecting the filing requirement. That other tax preparer wouldn't even have gotten any payment for the service rendered. With this kind of environment, tax preparers might have to start charging for their opinion that there is no filing requirement; and a "not required to file" return should be filed to document a record of what income the taxpayer stated he had.

[AJsTax]

I do not agree

I agree with John. I think a tax professional is required to prepare all tax returns for a client if there is a filing requirement. If a client disagrees I would send him away.

with Gretel on this. We often have clients that file their own state or city returns after we have completed the federal return. We can not force a return on them and the state return is so easy to file by phone and lots of clients think they can do the city on their own , they do not want to pay us to do something they can do for free.
So if I client comes in and only wants the federal prepared, so be it. We do tell them of the requirements of the other authorities and of course would prefer to do all three, but we do not force it on them.

[JohnH]

I think the letter is fine, but I'd just say the "we consulted a preparer, who advised us we didn't need to file". Sometimes too much information devalues the story rather than enhancing it. If IRS is going to grant a compassionate waiver, they're going to do it regardless of the identity of the preparer.

[Black Bart]

...What can I do about penalties and interest?

Re interest: Not much (she had the use of the money); it just runs and that's that.

Re penalties: Some quotes from my tax seminar's workbook: "Internal Revenue Manual (IRM)...discusses reliance on the taxpayer's representative and/or return preparer...acknowledges a taxpayer often advises examiners that penalties are not applicable because they relied on the advice of a representative or preparer whom they allege is the cause of the noncompliance. The manual notes that various regulations and court decisions have held...this action does not relieve the client of meeting his legal obligations as a taxpayer.

1. All facts and circumstances must be taken into account in determining whether a taxpayer has reasonably relied in good faith on advice...
2. The advice must not be based on unreasonable factual or legal assumptions.
3. The substantial underpayment penalty does not apply to any portion of an underpayment when there was reasonable cause for the underpayment portion and the taxpayer acted in good faith. Reliance of the advice of a professional tax advisor does not necessarily demonstrate reasonable cause and good faith. However, reliance on professional advice is reasonable cause and good faith if, under all circumstances, the reliance was reasonable and the taxpayer acted in good faith.

At first glance # 3 sounds like IRS is talking out of both sides of it's mouth ("reliance" is okay/not okay). But the gist seems to be that, while just bringing up the excuse isn't an automatic get-out-of-jail free pass, if your client did the reasonable, prudent thing any normal person would then they'll let her off.

Another note: It says further "The manual also advises the examiner when considering the failure-to-file penalty that the U.S. Supreme Court held that the fact that a taxpayer relies on an attorney to file a timely tax return does not relieve the taxpayer of the duty to meet the tax return deadlines." I suppose IRS mentions that to give agents a discretionary club in case they don't like you.

[erchess]

Other Preparer or Firm

When I take on a client I have a duty to believe what they tell me. If I happen to know to the contrary or if they tell me something absolutely unbelievable then I have to talk them out of that story or send them away. I specifically owe it to my client not to look at it from the point of view of the Other Preparer or Firm if doing so will prevent me from zealously representing the point of view the client wants put forward. In any event the Other Preparer or Firm is not coming to any harm from it because the client won't have any documentation of the alleged transaction and neither will they nor are there as yet any regulations or best practices to indicate that they should have records of why they told a client he didn't need to file. Because of this the IRS is highly unlikely to say boo to them.

On the other hand John H brings up a valid point. Sometimes in dealing with the IRS less is more.

[Black Bart]

In this particular case

...the Other Preparer or Firm is not coming to any harm from it because the client won't have any documentation of the alleged transaction and neither will they nor are there as yet any regulations or best practices to indicate that they should have records of why they told a client he didn't need to file. Because of this the IRS is highly unlikely to say boo to them...

I think you're right because it will all probably be handled by mail and JenMO will eventually write IRS/state about bad advice received. With any luck a clerk will write off most of the penalty billed and that'll be the end of it.

BUT, I believe the IRM penalty procedures that I quoted from my tax seminar were IRS instructions for the agent to follow in the course of an office audit where I think it would be more likely to result in a preparer penalty than in Jen's correspondence case.

While you say "...nor are there as yet any regulations or best practices to indicate that they should have records of why they told a client he didn't need to file," I'm not so sure that's true -- here's a few more "IRM" seminar lines that I didn't post previously:

The manual instructs the examiner to document the taxpayer's reliance on a representative or return preparer in the case file and to make any necessary contacts with the representative or return preparer to determine appropriate penalty liability before closing the income tax case. The examiner is instructed to document the consideration of preparer penalties and conclusions regarding the preparer's or representative's responsibility for errors in the case file. The IRM reminds examiners that penalty assertion is the key emforcement vehicle for noncompliant preparers...