Howard's IRS and the Law Blog

I do alot of IRS and bankruptcy work for my clients, and receive many questions about  it works.  Bankruptcy is a valuable tool to eliminate IRS liabilities.

To help in understanding taxes and bankruptcy, I thought it would be helpful to provide real life examples, starting here with a “bankruptcy timing” question I recieved from an enrolled agent on behelf of his client:

Howard, I have a client considering Chapter 7 bankruptcy on her IRS income tax debt.

2001 – owes $59,000.  Her return was due on 4-15-02, but she did not file it until 9-15-08.

2003 – owes $9,800.  Her return was due on 4-15-04, but she did not file it until 9-1-08.

2006 – owes $1,400.  Her return was due on 4-15-07, but she did not file it until 8-25-08.

She is in currently non-collectible status with the IRS.

When would she first be eligible for a Chapter 7 bankruptcy?

This illustrates Rule No. 1 in eliminating taxes in bankruptcy:  To be successful, tax returns must have (1) a due date that is three years before the bankruptcy is filed and (2) been actually filed two years before the bankruptcy starts.

In this example, it has been more than three years since the returns were due. But it has not been two years since they were filed.

The result: She could have all of the taxes discharged in a Chapter 7 bankruptcy on 9-15-10.  This is two years after the returns were filed.

If the returns were filed on time, then she would not have wait any longer – both the three year and two year rules would have been met – and bankruptcy could be filed immediately.

The non-collectible status will keep the IRS on hold while awaiting the bankruptcy filing date.

Stay tuned – I will be periodically posting more real examples of how bankruptcy, taxes and the IRS works.  You can also read my other blog entries on it and my articles.

It is common to feel like you are not getting a fair shake from an IRS auditor.   Frustration mounts with perceptions that the auditor is unreasonable.  No matter what you do, the auditor cannot be satisfied.  You are told you owe money to the IRS, and you know you don’t.

There is good news – IRS auditors are not the end of the road.

Before the IRS can finalize an audit, they are required by law to give you rights to dispute it in federal Tax Court and with an IRS appeals officer.

Before the audit becomes final, the IRS must notify you of your rights to dispute it.  This letter called a “Notice of Deficiency.” The Notice of Deficiency gives you a very important legal right – to take the IRS audit to Tax Court and have an independent judge review it.  You will have 90 days to file a “petition” to Tax Court after the IRS sends you the notice of deficiency. If the 90 days has already expired, you may qualify for audit reconsideration instead.

Before the IRS goes to trial, they will send your case to an IRS Appeals Officer for settlement.  The IRS Appeals Officer’s job is to settle the case based on how a judge would rule, not an auditor.  IRS Appeals Officers have flexibility not always shown by IRS auditors.  Most IRS examination cases settle this way with results not available from an auditor’s point of view.

Tax Court judges and IRS appeals officers perceive cases differently from IRS auditors.  If you are right, you can testify to it – summarize to the appeals officer what you will tell the judge. If the IRS – in preparation for trial – sees that their auditor was being unreasonable, they will most likely make attempts to settle the case on the basis of how an independent judge would rule.

The auditor often has a small view of your case and does not consider how outsiders would decide it; that changes when the final decision is not that of the IRS, but is put in the hands of the Tax Court.

If you find yourself in an IRS pickle, there are three IRS employees you are most likely to come face to face with.  Those are Revenue Officers, Revenue Agents and Special Agents.  Here is what to expect from each:

An IRS Revenue Officer is in collection enforcement. Often, the first contact you will receive from a Revenue Officer is an unannounced visit to your home or office.  Revenue Officer’s collect taxes and pursue nonfilers.   Revenue Officers work in your town.  They want financial information to determine the best way to collect the taxes (or not collect them, if it would create a hardship).  Revenue Officers carry badges and can take your wages, bank accounts and other personal and real property if there is a lack of cooperation.  The goal is case closure representing your ability to repay.

An IRS Revenue Agent audits tax returns for the IRS. Like Revenue Officers, Revenue Agents may want to meet you at your business, or ask that you come to an IRS office.  You will get notified of the audit by mail – no unannounced surprise visits.  Common audit triggers include Schedule C businesses and expense deductions not in reality with your stated income (like claiming $10,000 in charitable contributions on $40,000 in income). Audits are usually about finding money that you should owe on the return, but it can turn criminal if the Revenue Agent finds significant unreported income or fraudulent deductions.

IRS Special Agents are criminal investigators. In addition to criminal referrals from Revenue Agents (auditors), Special Agents can receive cases from Revenue Officers (collectors).  Examples of Revenue Officer collection referrals include lying about your finances and assets, or intentionally failing to pay employment taxes.  Special Agent priorities also include non-filers, concealing income off-shore, and tax returns prepared to obtain fraudulent refunds. If you are under criminal investigation you most likely will be the last to know, with Special Agents making an unannounced visit to question you.  They often know the answers to their questions.  Stop, state you wish to contact an attorney, and respectfully decline to answer.

Of course, you can come in contact with an IRS employee in the strangest of places and not know it.  When I worked for the IRS as a trial attorney, I was at dinner at Benihana, and at my table were two businessmen talking very loudly about how they cheated on their taxes.  You never know.

IRS tax liens are not forever.  They do expire – here is an overview of when:

For starters, the IRS has 10 years to pursue you for the unpaid taxes that caused the lien to be filed.  The 10 years starts on the date you began owing the IRS money.

After the 10 year collection timeframe expires, so does the IRS tax lien.

But beware:  Sometimes you might do something that gives the IRS more time to collect.  This can have an impact on a Federal tax lien.

Actions that can extend the IRS collection timeframe include the filing of bankruptcy, collection due process appeals or submitting an offer in compromise or innocent spouse claim.  These actions stop the IRS from collecting.  Because of that, this time is added back on to the collection statute.

The tax lien will still expire at the end of 10 years – even if the IRS has more than 10 years to collect – unless the IRS timely refiles the lien.

If the IRS timely refiles the tax lien, it is treated as continuation of the initial lien.

The refiled tax lien will be valid for the extended timeframe the IRS has to collect – it is good for the extra time you gave the IRS to collect.  It maintains any priority it has against liens of other creditors. See Internal Revenue Code 6323(g)(3) and Internal Revenue Manual 5.17.2.3.3.

However, if the IRS does not refile the tax lien within 30 days per IRC 6323(g)(3), the original lien expires and is no longer valid.

If the IRS refiles the tax lien after 30 days, then it is still a valid lien, but it is not considered a continuation of the original lien because it was filed late.  It is a new lien, and its priority against other creditors starts on the day it is filed.  The IRS will have lost any higher ground it had over other creditors.  Other creditor’s liens now jump ahead of the IRS.

For more on the IRS statute of limitations on collection, see my prior posts.

I received a call from a Wall Street Journal reporter on a story he was writing on an IRS announcement that they might use mortgage interest payments to identify non-filers.

It goes like this:  You have not filed tax returns.  You are self-employed and your income is not reported to the IRS.  But you own a home, and pay mortgage interest.  Your bank, as it is required to do, reports to the IRS the amount of mortgage interest you paid.  The theory is that if you are paying your mortgage, there is a substantial likelihood you have income. But if the IRS has no record of a tax return being filed, the conclusion is that there is unreported income and missing tax filings.

As I stated to the reporter (and was quoted in the article), this is clearly the IRS attacking the cash economy – those who are self-employed and for any number of life reasons – divorce, medical problems, business failures – and have not filed tax returns.

This will not always be black and white.  Mortgage interest could be paid by non-taxable sources – like refinancing a house, taking cash out and living off the funds during periods of unemployment.  But, as the study indicated, there are those who do pay mortgages, have income, and have not filed their taxes.

The best way to handle unfiled returns is voluntarily before the IRS comes calling. Although non-filing is an indicator of criminal tax fraud, in most cases the IRS simply wants tax returns and an approach to the unpaid taxes, like offer in compromise, repayment agreement, uncollectible or bankruptcy. These are civil issues only.

Non-filing can be stressful enough – getting a head start on the IRS is the best way to formulate a plan to prepare the returns and find solutions to nonpayment.

In an unprecedented hiring move, the IRS is bringing on board almost 2.000 new Revenue Officers, starting this fall (2009).  This is a 35% increase in high level IRS collection enforcement staffing.

The ramp up will entail over 1,000 new Revenue Officers in the fall, with another 350 coming on board in 2010 and then 500 slated to begin in 2011.

The focus on Revenue Officers is significant as they are the best trained and most aggressive IRS collection agents.  Revenue Officers live in your city, and come to your house or business as an enforcement method. They have the most power to investigate your finances, and levy or seize your assets if there is a lack of cooperation.

The IRS enforcement initiative will likely be focused on employment tax problems, non-filers and those who owe the IRS year after year.  It is better to plan in advance and get your ducks lined up before the IRS comes knocking.

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