Howard's IRS and the Law Blog

The IRS sends out a lot of mail.  Any letter from the IRS should be taken seriously, but some have more legal ramifications than others.  Here are three of the most important IRS letters – what they mean, and how to respond:

1.     Notice of Deficiency.  The IRS sends this letter out as the final notification they are going to make changes to your tax return.  It is usually sent out to conclude an audit, but can also be used to create a liability for you if you have not filed a tax return.  The notice of deficiency will list the changes the IRS proposes to make to your taxes – for example, disallowing your home office deduction, or business use of your car, or increasing your income from a retirement distribution that you overlooked – and calculate a new tax due, along with interest and penalties.

The notice of deficiency is also known as a “90 day letter” or ” statutory notice of deficiency,” and is authorized in Internal Revenue Code section 6212.

The notice of deficiency gives you 90 days to file a complaint to U.S. Tax Court to dispute the proposed changes to your tax return.  Focus on the use of the word “proposed” – nothing is final until the notice of deficiency is sent and you are notified of your Tax Court rights.  In Tax Court, you will be like a Plaintiff, and the dispute will be over the IRS auditor’s findings.  You will have an opportunity to go before a Federal judge, bring witnesses, and state your case that the IRS audit is wrong.  If you did not have the opportunity for IRS appeals to review the audit, you will have that opportunity to settle the case with the IRS appeals before trial.

If you do not file a complaint to Tax Court in 90 days, the audit becomes final, and the IRS will send you a bill and start collection efforts.   Before the 90th day, the audit is proposed; after the 90th day, the audit becomes legally binding if a Tax Court petition is not filed.

2.     Final Notice of Intent to Levy.   The IRS is required by law to send a notification to anyone who owes a tax debt before starting enforcement by levy or seizure.  This letter is called a Final Notice of Intent to Levy, and is authorized by Internal Revenue Code section 6330.

The Final Notice of Intent to Levy gives you 30 days to file an administrative appeal with the IRS, disputing the IRS’s intent to start collecting the taxes from you.   This appeal is important:  First, while the appeal is pending, the IRS is prevented from taking its intended enforcement action – no levies, no seizures in most every case.  Second, the appeal moves the case file from the IRS Collection Division to the IRS Office of Appeals.  The Office of Appeals will give you an opportunity to meet with a settlement officer to negotiate a solution to the unpaid taxes.  And third, if you cannot work it out with appeals, you have the right to dispute the proposed enforcement in Tax Court.

The process to appeal, stop, and dispute intended IRS enforcement before it occurs is commonly referred to as a Collection Due Process Appeal.

The right to take IRS collections to Tax Court creates a notice that is a first cousin to the Notice of Deficiency – you will receive a Notice of Determination at the conclusion of your collection appeal.  If you disagree with IRS Appeals, you have 30 days to file a complaint to Tax Court for a review of the intended collection action.

3.     Trust Fund Recovery Penalty – IRS Letter 1153.   The IRS cannot make an assessment against business owners for unpaid employee withholding taxes unless prior notice and appeal rights are first provided.  This is called a trust fund recovery penalty, and an IRS Revenue Officer will issue Letter 1153 to any person with decision making authority over the payment of the employee withholding.  (It is called a trust fund recovery penalty because the decision-makers had a caretaking (trust) responsibility to pay the employees’ withholding to the IRS; failing that trust can result in the business owners being held responsible for repayment of the employment taxes.)  This is authorized by Internal Revenue Code section 6672.

The IRS Letter 1153 is sent by an IRS Revenue Officer after an investigation into finding the decision-makers.  Many times, the IRS targets for the trust fund penalty were not decision-makers and should not be held responsible for the failures of the business.  If the IRS target disputes the liability, there is a 60 day window of time to file an appeal.  The appeal prevents an assessment being made against the target, and provides independent review of the Revenue Officer’s findings.

The Notice of Deficiency, Final Notice of Intent to Levy and Trust Fund Recovery Penalty Letter 1153 all involve proposed actions by the IRS, and rights to review before those actions can be implemented.  The tax code has restrictions on the IRS acting unilaterally to finalize an audit, levy on property or conclude an investigation into personal responsibility for trust fund taxes.  When dealing with the IRS, itt is essential to know these rights, what they mean, and how to respond.

If you owe money to the IRS, chances are you have justifiable concerns over the IRS involuntarily taking your property to pay the debt.

But the IRS releases statistics on what they levy and seize. This provides valuable direction as to what is really at risk for you rather than losing sleep and energy worrying over what might could happen.

The IRS prefers assets that are liquid – meaning easily convertible to cash.  This is primarily bank accounts and wages.  And although retirement accounts are cash assets, the IRS tends to avoid that.  The IRS shies away from seizing real and personal property – houses, cars, household goods, even business equipment.

Here are the facts as to what the IRS levies and seizes:

In 2011, the IRS made 776 seizures of real and personal property – hard assets that take time to liquidate, houses, cars, household goods, business equipment.

Compare that to levies on bank accounts, wages, etc.:  In 2011, the IRS issued 3,748,884 levies on third parties, like banks and employers.

Think about it:  776 vs. almost 4 million.

The IRS wants to get paid in the least intrusive manner and with the quickest result.  There are reasons for this wide discrepancy, including a prohibition in the Internal Revenue Code and Internal Revenue Manual on the IRS seizing and selling property that will not result in any net recovery (i.e., property with no equity).  Make no mistake that an IRS seizure of a house or business equipment is serious; but it is important to understand that the risk usually is in cash assets.

If you have a wage levy or just found out the money in your bank account was just cleaned-out by the IRS, there are ways to get quick releases.  Sometimes, a levy can be released without providing the IRS any financial information about you (known as streamlined installment agreements), while other times your income and expenses will need to be discussed with the IRS to arrive at a plan (which can include the levy released on a finding of financial hardship and having your account placed on hold for several years).  In extreme situations, bankruptcy can get an IRS levy released, no questions asked.

Meeting with the IRS is a stressful situation, filled with questions about what to expect.  If you have to meet with the IRS, a common concern is how to present yourself.

Whether you are meeting with an IRS collections officer (Revenue Officer), an auditor (Revenue Agent) or with an appeals officer, it is important to understand that IRS employees have wide experience meeting with taxpayers.  Do not underestimate that they are reading you.  Presume that they are able to differentiate an honest person caught in unintended circumstances from someone who will be uncooperative.

If you are the honest person meeting with the IRS because a life circumstance (such as divorce, business failure, health problems, job loss) brought you there, the first rule is to be yourself. That does not mean to turn into a well of tears (that usually does not work) or to talk too much and answer more than the question asked, but to present your situation as it is:  a good person in an unintended situation who wants to cooperate and address the problem.  Yes, some IRS employees may put up a wall of indifference, and some may be more compassionate to your situation. But either way, it is important to be genuine and human.  (If you are  contacted by an IRS criminal investigator, it is best to be courteous but say nothing – talking is evidence that could be used in your prosecution.  In criminal matters, tell the IRS you would like to consult with an attorney before answering any questions.)

The IRS is judging your credibility.

Dress with respect, but not in a way that is out of character.  If you would never wear a suit and tie, do not wear one to meet with the IRS – it is not you.  If you are coming off a job and your clothes are dirty, it would be best to freshen up.  Work clothes are absolutely fine – again, this is who you are.  And you want to do everything possible for the IRS to see you as a person, not a case file.

With all this being said, bear in mind that most taxpayers who are represented by a professional – whether an attorney or an enrolled agent – rarely meet with the IRS.  If you are represented, it is likely you will never have to worry about what to wear, how to act and what to say.  In most situations, all negotiations and face-to-face meetings are handled by the representative – you are at work and doing your thing, and your representative is handling matters for you, either meeting with the IRS or on the phone with them for you.

But if you are compelled to meet with the IRS – usually because of an IRS summons compelling you to meet or because it is the best case strategy to move the case forward – be yourself.

 

 

You decide to tell the IRS collection representative what you make, give them your paystubs, and innocently list your monthly living expenses.  You would like a payment plan, and have some idea of what you can afford.  Or you do not think you can afford any payment, and would like the IRS to put your debt in forbearance.

You nearly drop after the IRS plugs all of your numbers into their calculator, applies their living expense allowances, and tells you what they think you can afford to pay to them.

Needless to say, the IRS thinks you can pay more than what you have offered, mainly because your living expenses are higher than what the IRS thinks they should be.  It could be that you have an old house and high utilities, or have a car or mortgage payment that exceeds the IRS financial standards.

Either way, the IRS is demanding the difference and threatening levy action if you do not agree.

The IRS and you are in two different worlds, and you simply do not have the extra money.

The good news:  The IRS does have solutions for when their expense allowances do not match your reality.  (They just do not always tell you about it or offer it .)

Solution #1 to IRS expense guidelines. The Five Year Repayment Rule.  This can be found in Internal Revenue Manual 5.15.5.10.  Simply put, if your budget allows you to repay the IRS in five years, the IRS can allow all of your expenses, and not apply their rigid financial standards.

Solution #2 to IRS expense guidelines: Streamlined installment agreement.  In streamlined installment agreements, the IRS will give you as long as 6 years to repay them without a full financial disclosure of your income and living expenses.  You can qualify for a streamlined agreement if you owe under $50,000 and can repay in 6 years.  As streamlined installments require minimal financial disclosure, the IRS does not apply their expense guidelines.

Solution #3 to IRS expense guidelines: Chapter 13 bankruptcy.   Chapter 13 is a repayment plan supervised by the bankruptcy court, not the IRS.  It can result in a payment plan using your real budget and actual cash flow, not the IRS’ version.  Chapter 13 has added benefits, including stopping accruals of interest, penalties, and possibly reducing how much tax you have to repay (benefits not available internally with the IRS).  A Chapter 13 can last between 3 to 5 years.

When the IRS applies their often overbearing expense and financial standard allowances and demands a payment you cannot afford, know how to craft a solution that works for you.

Chapter 7 is for you if you do not have any money left at the end of the month to repay your creditors.  It is designed to give you a fresh start from honest mistakes you made in your finances – too much credit card debt, medical bills, a failed business and yes, unpaid taxes.  If you qualify for the Chapter 7, when your case is over, these debts will be discharged – meaning that creditors can no longer involuntarily collect them from you.

A Chapter 7 is known as a liquidating bankruptcy.  If you have property with equity, you could lose that property to a bankruptcy trustee, who will sell it and pay the proceeds to your creditors.  Equity is the cash that would result from a sale of your property.  Most Chapter 7 bankruptcies are known as no asset cases because there is not enough equity in your property to result in any meaningful payment to creditors.

Most people filing a Chapter 7 do not lose any property because of laws that protect it. These laws are known as exemptions, and are intended to ensure that you come out of Chapter 7 with property that is essential for day-to-day living.  For example, Ohio law protects up to $3,225 of equity in a car, $20,200 of equity in your house and $10,775 in household goods. There are also protections for money in your bank account, jewelry and retirement accounts. A Chapter 7 generally lasts between 4-6 months.  The bankruptcy filing lists all of your assets and their garage sale value, your monthly income and living expenses, and your creditors. There is a meeting with a bankruptcy trustee about 5 weeks after you file, where you will be asked questions under oath about your property and financial affairs, primarily to verify that you have been honest in what you have listed in your filing.  This takes about 10 minutes, on average.  Creditors can also attend this meeting and ask you questions, but this is fairly uncommon.

If you have been honest, are truly experiencing a hardship in repaying your creditors, and have no assets of value past exemptions, you should pass through the meeting successfully. The bankruptcy trustee works for the Department of Justice, and is appointed to ensure you qualify for the benefits of a fresh start, to ensure that your creditors are treated fairly, and, in situations where there are assets of value, to work to recover them from you. After the meeting with the bankruptcy trustee, the trustee and creditors have 60 days to object to your bankruptcy.  Again, this is the exception for honest people who cannot afford to repay their debts.  After the 60 days expires, the court is then able to issue your discharge, and your case is then closed and over.

With that background, let’s address the impact your Chapter 7 bankruptcy could have on the IRS.

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Unpaid employment tax liabilities results in the highest level of IRS enforcement.  The IRS usually assigns its most experienced Revenue Officers to investigate employment tax cases, including pursuing the individuals in the business personally for not paying their employees taxes.

If your business owes employment taxes to the IRS, what does this mean to you and where does it lead?

Let’s break it down – 10 tips on what to expect from the IRS, and how to handle the IRS scrutiny.

1.     Yes, the IRS will make an unannounced first visit to your business.  Be respectful and courteous.  This the Revenue Officer’s first impression of you – make it count.  Build credibility and confidence with the Revenue Officer.  You do not have to make any promises or statements, but be sincere.  Tomfoolery will get you nowhere.

2.     You do not need to offer explanations, talk at length, provide documents or financial statements at the first visit.  Expect open-ended questions.  You can tell the Revenue Officer you will be getting professional assistance to solve your problem, and your representative will contact him, and respond to questions and provide all requested information.

4.     You do not have to let the Revenue Officer past a lobby area or into the business.  There is no right to tour your business or view your assets to see what you have unless (1) you voluntarily agree or (2) the Revenue Officer has a court ordered writ of entry permitting him to take a walk-through (it would be rare for a RO to have a writ of entry on a first visit).

5.     The IRS cannot take your bank accounts and customer receivables until 30 days after a Final Notice of Intent to Levy is issued.  In many cases, the Revenue Officer will hand-deliver the Final Notice during the first visit.  This notice is important – it gives you important appeal rights to resolve your case without the threat of levy with an IRS settlement officer instead of an enforcement officer.

6.     The Revenue Officer wants to set deadlines and move the case forward.  He will want unfiled returns, an IRS financial statement (Form 433B), and proof that you can make your employment tax deposits and stop the problem.  He will send you Form 9297, Summary of Taxpayer Contact listing what he wants and when.

7.     Revenue Officer deadlines are dead serious – miss them and risk levy action or an IRS summons compelling your cooperation.  If you cannot make a deadline, it is important to let the Revenue Officer know in advance, not at the last minute, to ask for an extension in good faith.

8.     As you have been pyramiding employment taxes, Job #1 is to stop the bleeding.  Immediate procedures have to be put in place to find the money to make the deposits.

9.     Expect the Revenue Officer to start an investigation of the business for the trust fund recovery penalty.  The IRS is looking for those in the business who were part of the decision not to pay the withholding taxes to the IRS.   The Revenue Officer will want to interview people in the business to see what they know, and subpoena bank records to see who signed checks (directed payment of bills).  The interview presents its own set of issues to deal with, including whether to submit to it all and if so, knowing the questions to be asked ahead of time.

10.    The IRS tends to cast a wide net when pursing the trust fund recovery penalty against business owners.  You have appeal rights to dispute if you disagree.  Until appeal rights are exhausted, the IRS cannot collect the trust fund taxes from you personally.  But you may be asked for a personal financial statement (Form 433A).  But remember at the investigation stage, you do not personally owe the IRS anything yet, so consideration should be given to deferring.

Employment tax liabilities involve multiple defenses (business, individuals) and many twists and turns.  Knowing what is coming and being prepared helps plan for successful resolution.

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