Howard's IRS and the Law Blog

Entrepreneurs justifiably take great pride in their business.  But this pride often gets in the way of a clear understanding of the risk of continuing to operate into a storm of IRS trouble.  The IRS comes down hardest on businesses with tax troubles, and owners and management are usually implicated as well.

Here are a few warning signs of tax troubles:

1.     Using employee tax withholding money to pay other creditors.  Falling behind on employment taxes is a vicious circle, with interest and penalties causing the liability to increase substantially to the point of making a planned repayment difficult.  Additionally, ownership and management can be held personally responsible for the unpaid taxes (this is called a trust fund recovery penalty).  If the business can’t repay the taxes, the IRS will seek to collect from the personal assets of the individuals.

2.     Failing to make quarterly estimated tax payments.  Many business owners, especially those that are self-employed, are responsible to account for their own income tax payments.  Employees have a withholding mechanism; owners often do not.  The cash crunch from the business impacts the ability to pay personal living expenses, resulting in income taxes being left out of the household budget. Groceries and mortgages need to be paid, but the IRS is delayed.  The IRS is as important as the mortgage; after all, what good is it to pay your mortgage while giving the IRS a claim on your house?

3.     Delaying the filing of tax returns.  If you can’t pay, not filing is not the answer.  The money is still due, and filing late only adds penalties to the amount owed.  It also puts off addressing the problem, compounding the issue.  And the IRS tracks unfiled returns, especially in employment tax cases.  Not filing is a great way to get the attention of the IRS and have them assign a local Revenue Officer to investigate.

4.     Plowing retirement money into the business, and using it to pay personal living expenses.  The hope is that tomorrow will be better.  And it might be.  But the creditors that are being paid with the retirement money (suppliers, etc.) have no claim to it – in most situations, retirement money is an asset that no creditor can reach.  Except the IRS.

5.     Unmanageable credit card debt.  Before the retirement money goes into the mix, credit cards are often maxed out.  Stop at this point; the situation is already unmanageable.  Do not dip into the retirement money.  And do not pay the credit cards before paying the IRS.  The credit cards are at the bottom of the barrel – they can be eliminated in bankruptcy, and many times they will end up writing off the account.  Not paying credit cards is uncomfortable, but not as uncomfortable as the IRS can make things.

These are tough situations.  A failing business brings the stress of obligations to employees and personal family members.  But the longer it goes unchecked, the deeper it gets.

Can the IRS continue to audit me year after year?

by Howard Levy on December 22, 2008

in Audits, Tax Court

There are limits on the IRS continuing audits year after year.  These audits are known as “repetitive audits.” Their scope is limited by Internal Revenue Manual

The Internal Revenue Manual states that if you are contacted by the IRS, and had a similar issue examined by them in either of the two prior years, and there was no change or a small change in the tax from the audit, the new examination will be discontinued.  If a substantive tax change resulted from the prior audit, the IRM provides that the repetitive audit procedures do not apply and the examination will go on.

The issue in a potential repetitive audit is whether the prior case had a small change (discontinue) or a substantive change (continue).

What if the IRS accepts 97% of taxpayer verifications in a one year audit, resulting in a $5,000 tax deficiency, but seeks to audit the next year’s return after completing the audit?  This is a real life case currently pending with one of my clients before the IRS, involving a successful real estate agent who was able to verify 97% of auto mileage, subcontractor labor and match income on the return to that on his bank statements.  But the IRS wanted to audit a second year.

Isn’t a 97% verification rate saying the taxpayer is abiding by the laws?  Or is a $5,000 deficiency substantial enough to continue on?  IRS Policy Statement 4-21 provides that auditors are to make efficient use of examination staffing and resources and promote the highest degree of voluntary compliance.  How does this situation fit within that directive?  Is further pursuit of a 97% verification rate promoting more voluntary compliance?

There are no limitations by law as to repeat audits.  The limitations are administrative and discretionary within the IRS from the Internal Revenue Manual.  That being said, if you are being audited and the IRS has found minimal changes, but wants to go into other years, be sure to assert your rights against repetitive audits.

Here are the final five situations to look for when the IRS cannot take collection action:

  • When the value of the property is protected by exemptions provided by Section 6334 of the Internal Revenue Code.  There is certain property that the IRS cannot take under any circumstance, including your furniture and household goods valued up to $7,900, necessary clothing, unemployment benefits and child support.  More on that here at “Can the IRS take my stuff?
  • When the liability is $5,000 or under, the IRS cannot seize your personal residence.
  • When business assets of an individual are at stake, only if a determination is made by the IRS that other assets are insufficient to pay the liability.  In addition, the proposed seizure must be approved by an IRS Area Director.  See Internal Revenue Code Section 6334(e).
  • When the IRS has requested your appearance by summons to ask you questions and determine your assets, no collection can occur on the day of your appearance.  See Internal Revenue Code 6331(g).
  • When you can show the IRS that the amount you owe is likely incorrect, IRS policy is to exercise restraint in collections until the issue is reasonably resolved.  See IRS Policy Statement 5-16.

With the situations listed in Part I and Part II, that makes 15 situations where you are protected from the IRS.  This is not meant to be an exclusive list – there are actually more, but these are some of the more common and practical situations.

Here are five more situations in which the IRS is barred from taking collection action against you:

  • When the timeframe to collect the liability has expired.  The IRS has 10 years to collect a liability from the date it puts the liability on its books. When the 10 years is up, the tax is cleared from the IRS’s books and can longer be collected.  More on that here at “When does the collection of IRS debt expire?”
  • When you are in bankruptcy.   Section 362 of the Bankruptcy Code creates what is known as an “automatic stay” that prevents creditors, including the IRS, from pursuing collection of a debt. Bankruptcy is also an extremely effective way of releasing IRS seizures and garnishments.   Properly done, it can also eliminate tax liabilities.  More on that here at “But I thought you can’t eliminate taxes in bankruptcy.”
  • When seizure of a personal residence is being considered, the IRS must first bring an action in U.S. District seeking court approval.  The IRS cannot do take your house on their own.  Incidentally, IRS seizures of personal residences are very rare (676 total of personal and real property across the country in 2007).  More on that here at “IRS by the numbers.”
  • When a Collection Due Process appeal is pending. After the IRS sends its Final Notice of Intent to Levy, you have the right to dispute and stop the collection action by filing a request for an appeals hearing. Provided the request is filed timely (within 30 days), while this hearing is pending, the IRS cannot take action to collect.

Stay tuned, there is more coming…Part III will be next.

The list of when the IRS cannot take property is fairly extensive, so I will do this in parts to break it down simply. Here is Part I of when the IRS is prohibited from taking collection action:

  • When there is insufficient equity in the property.  There must be sufficient net proceeds from the sale to provide funds to apply to the taxpayer’s unpaid tax liabilities.  This protects, for example, your car that is worth $5,000 but has a $5,000 loan against it – there is no equity for the IRS (the loan would be paid first if the IRS took it).  Same goes for houses, personal belongings, etc.
  • When an installment agreement is in effect.  If you are making payments, the IRS will leave you alone.
  • If your installment agreement is terminated or your request for an IA is denied, you have the right to appeal those decisions.  The IRS cannot take action during the 30 day time period after notice of termination or denial, and while an appeal filed within that 30 day period is pending.
  • When an offer in compromise is pending, and while an appeal of a rejected offer is being decided.
  • When a innocent spouse claim is pending.  I have had clients with IRS garnishments come into my office frustrated because they did not have involvement or knowledge of the liability and have a strong innocent spouse claim.  Upon submission of the innocent spouse claim, the IRS garnishment is immediately released.  There is no further collection action while the claim is being reviewed by the IRS.

I will post Part II next.

The IRS offer in compromise program has been promoted endlessly over the last several years. Turn on your television, open up the newspaper, or listen to the radio, and there it is.

My clients usually are very interested in the compromise program, but the first thing I do is set them straight that this is not a “freebie” program.

The numbers speak for themselves.  Compare:

-     In 2001, the IRS accepted 38,643 offers.

-     In 2007, the IRS accepted 11,618 offers.  

That is a 70% decline.  Pretty significant.

With over 2 million active balance due accounts in 2007, the IRS arguably should be as welcoming as the advertisements lead one to believe.

Think about it:  2 million balance due accounts, 11,618 offers accepted.

The reality is that this is anything but a “loose” program.  In certain situations it can be very helpful, but a hard analysis of income and expenses under the strict IRS financial guidelines is essential to success.

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