10th Circuit Banshee Assaults Late-filed Returns

When you don't prepare your own return and the IRS has evidence that you owe taxes they can assess the tax against you without your agreement under 26 USC § 6020(b). This assessment is called a "Substitute for Return" (SFR). But, this is not considered a "return" by you since you didn't swear to the truth of it under penalty of perjury (Attestation Clause).

If you haven't filed but later file before the IRS makes an assessment, this is a "return" because you signed the attestation clause.

In the first case, you can never get a bankruptcy discharge for the taxes because you didn't file a return. But, in the second case, you are allowed a discharge if all the other bankruptcy conditions are met.

But, what about the case where the taxpayers file a return after the IRS has assessed the tax by way of an SFR? The taxpayers did sign the Attestation Clause but the IRS has already made an assessment.
The Federal 10th Circuit Court of Appeals says "no discharge" for these late-filed returns. (See Mallo v. USA) The court held that late filed returns did not meet the "applicable filing requirements" under §523(a), thus they were not "returns" and no bankruptcy discharge is allowed.

There is plenty of debate about the wisdom of this ruling and it might become a Supreme Court case. But, the IRS has not delayed in enforcing collection against bankrupt taxpayers. Thousands of hostile letters are now being sent by the IRS to collect.

Taxpayers who have not filed now have a major dilemma. The IRS has 10 years to collect a tax, even if they assessed it by way of SFR. If the taxpayers file returns they give the IRS another 10 years to collect.

So, many taxpayers will likely not file returns and let the 10 years expire, which is contrary to the IRS goal of voluntary compliance.

It appears the 10th Circuit (and the IRS) believe they are enforcing a rule to demand compliance but what really is going to happen is a lot of non-compliance.

Look at the facts: The IRS won't accept an Offer in Compromise or enter a payment plan unless all the returns are filed. Taxpayers with late-filed returns can't get a bankruptcy discharge. If the taxpayers file they give the IRS another 10 years to collect.

So, I predict the taxpayers are going to avoid the IRS, not do returns and let the 10 years SFR collection period expire. Let's give a typical example:
Joe works construction. He is called "self-employed" and has received a Form 1099-MISC every year from 2003-2007 at $40,000 a year. He never does his returns and the IRS assesses the tax (SFR) based on the full $40,000 a year income, plus the Self-Employment tax (FICA) on January 13, 2009 for all years. The IRS has until January 13, 2019 to collect that assessment.

Of course, if Joe did the returns he would get to deduct all of his expenses and the amount he owed would be less. But, a debt would still exist. If he can't pay it, it doesn't matter what amount it is.

By 2014, the IRS has pestered Joe to extremity. But, they only have 5 years left to collect. If he does the returns, he lowers the tax but he gives the IRS another 10 years to collect. The IRS penalties and interest for late-filed returns are so great that the debt will still be enormous. If he can't pay it off or Compromise, he'll have to endure another 10 years of IRS collections.

Or, let's take another example. Because of under-withholding, a wage-earning employee, Mary, with no family or children owes $50,000.00 in taxes for tax years 2003-2007. These taxes were assessed by SFR procedure on January 13, 2009 so the limitations period expires on January 13, 2019. By 2014, the IRS has levied on her bank accounts and wages at various times but they only have 5 years left to collect. If she files the returns, she will still owe the exact same amount but she will have given the IRS another 10 years to harass her. So, why file?

From these examples it is obvious many taxpayers will try to avoid the IRS and let the 10 years expire without doing returns. For many, that will be difficult because of changed circumstances, such as marriage, children, a wage-paying job, etc.

Thus, it will be even more important now to seek legal advice from a tax lawyer if you have late-filed returns. For those taxpayers who can't avoid the IRS, they are going to have to prepare and file the returns. But, they must be thoroughly researched for all advantages prior to filing.

From there, they can try to lower the debt with a Penalty Abatement. But, if it still can't be paid, then the only other options are an Offer in Compromise or endure 10 years of payments to the IRS. Both of these options are dangerous.

So, when a taxpayer is faced with another 10 years of IRS hassle for a debt that can’t be paid, dodging the IRS sounds attractive. Thus, I predict that this new ruling from the 10th Circuit will encourage non-compliance with the tax laws.

J. David Hopkins, JD, LLM
1-13-2015

Mad Dog Tranquilized! IRS Audit Tactics

Audit Strategies & Tactics

You need to explore tactics before you talk to the IRS. The IRS examines returns to determine the accuracy of your income and deductions. However, an audit is more than just an examination of your accounting books. It is an investigation of YOU! The IRS will often want to examine your bank accounts and your lifestyle. They usually request a lot more information from you than is necessary to determine income. But, they are looking for any suspicious transactions or activity for their purposes as well as for other governmental agencies with whom they are connected.

Income Items

The first thing the IRS looks at are all the documents given to them by your employer, banks, mortgage lenders, etc. (More) They accept as true all documents given to them. If there is an error, YOU must have it corrected - the IRS will not reverse it. Next, the IRS looks at your bank statements. They add up all the deposits and declare them to be income. YOU must prove which deposits are not income. There is a special section in our Audit Defense program devoted to "Proving Deposits are Not Income". Finally, the IRS looks at your expenditures and your "lifestyle" to impute income to you. They add up all your expenditures and declare them to be income unless YOU can show you had money from other means, such as savings, friends&family; or loans.

Deductions

The first item usually reviewed by the IRS is your mileage log. You are required to keep one, but not many people do. Therefore, the IRS looks for that first. If you have one, they are more generous; if you don't have one, they start digging for more errors. Next, they will look for contract labor you hired. If you issued 1099MISC forms, they are more forgiving. If you did not, they will require much more proof of the validity of the expense. They will look at your payments, your contracts, the industry standard, and how the workers filed their returns. Plus, the IRS could allege that you misclassified the subcontractors and they should be employees. That is a major problem!! Finally, the IRS will thoroughly go through every expense deduction. You must match the payments with the invoices in chronological order or risk the IRS tacking on a "negligent record keeping" or "accuracy-related" penalty. The invoices alone won't work because that doesn't show payment. The payments alone won't work because that doesn't show business purpose. Your testimony of business purpose is not as persuasive as contemporaneous notes on the billings. So, you must have all the payments with all the billings, in chronological order. Don't make the IRS agent look through a pile of bills!! It's irritating, shows poor record keeping and leads to further investigation of you.

Pursue your case

All of these issues & more are explored in depth in our Audit Defense program. TaxHelp has a Guide to Self-Representation in an IRS Audit, along with more information in the "Vital Links & Resources" tab on TaxHelpLaw.com. But, we recommend having a tax attorney zealously represent you because they can prove your case without compromising your privacy. Often, people want to use their return preparer or CPA for audits. In letter audits, that is fine. But for office and field audits, it's dangerous because of the familiarity of the CPA to you & the case and their lack of knowledge of IRS procedure and powers. They can't be independent and advocate for you. Nor can they use the Courts, which is often a cheaper way to fight the IRS!! J. David Hopkins, JD, LLM

All My Deductions Were Rejected!

After the IRS spends countless hours pouring over your documents, making copies and wasting your time, they often send a Form 4549 which outlines the lines of your return they question and the amounts they are proposing to allow or disallow. But, taxpayers are often shocked to find that the IRS has disallowed ALL of their deductions.

Don't worry. Usually it is because the evidence is not in proper order and the IRS doesn't want to spend the time organizing your documents. The purpose of the TaxHelpAudit program is to show you how to organize and prepare your files for the IRS.

Then, once the documents are organized you can determine what is missing and what further evidence you need to prove your case. You will also discover if the IRS has any factual or legal objection to your evidence.

And, an audit does not necessarily end your arguments. You can still Appeal an Audit or go to Tax Court. Don't give up!!!

J. David Hopkins, JD, LLM