audits

Schedule C Filers – Take Note

March 17, 2020 by Frank

Remember It Takes Two to Tango – When You Sign Your Tax Return, You Are Attesting, Under Penalties of Perjury That Your Return Is True and Correct – Don’t Become a Co-Conspirator

Let’s take a look at three recent Department of Justice investigations into unscrupulous tax return preparers.

Philadelphia Area Tax Preparer Creates False Business Losses

According to court documents and statements made in court, Abdoulaye Coumbassa owned and operated Abbi Tax Services and Accounting (Abbi Tax). From at least 2012 to 2015, Coumbassa prepared and filed fraudulent tax returns and related forms and schedules on behalf of his clients. By reporting fictitious businesses with false business losses, Coumbassa sought inflated refunds for his clients from the Internal Revenue Service (IRS). At times, Coumbassa included the fake business losses without the client’s knowledge. In total, Coumbassa caused a tax loss of $2.1 million to the IRS.

In addition to being sentenced to 24 months in prison, U.S. District Judge R. Barclay Surrick ordered Coumbassa to serve one year of supervised release and to pay approximately $250,000 in restitution to the United States.

Georgia Tax Preparer Creates False Business Losses, False Business Gains, and False Tax Credits

The US Justice Dept. announced that it filed a civil injunction suit seeking to bar Wesley Adam Kroll from owning or operating a tax return preparation business and preparing tax returns for others. The complaint also seeks an order that Kroll disgorge ill-gotten return preparation fees that he obtained through his alleged misconduct.

The complaint alleges that Kroll operated three tax return preparation stores in Albany and Moultrie, Georgia, under the names United Tax Service, American Tax Service, American Tax, and Tax South.

The government alleges that Kroll prepared tax returns claiming fabricated businesses and business-related profits or losses, and various false tax deductions and credits, including education, childcare, and earned income tax credits. The complaint estimates the lost tax revenue from federal tax returns prepared by Kroll and his employees exceeded $1.9 million. According to the complaint, the IRS took multiple steps to correct Kroll’s unlawful behavior, including conducting in-person educational visits with Kroll in 2012, 2014, and 2015; issuing him warning letters in 2013 and 2016; and assessing him with $182,500 in tax return preparer penalties. But, the government alleges, these efforts have failed to curb Kroll’s unlawful behavior.

Georgia Tax Preparers Shut Down for Improperly Claiming Tax Credits, False Business Losses, and False Itemized Tax Deductions

A federal court in Columbus, Georgia, permanently barred Stacy Lee and Heather Lee from preparing tax returns for others and from owning, operating, or franchising a tax return preparation business. The court also ordered Stacy Lee and Heather Lee to close their tax return preparation stores. Stacy Lee and Heather Lee consented to the relief.

According to the US Justice Department, Stacy Lee operated two tax return preparation stores under the names Fast Track Tax Service in Talbotton, Georgia, and TimeLee Tax Service in Columbus, Georgia. Stacy Lee’s daughter, Heather Lee, allegedly prepared tax returns at the two stores as well. From 2013 to 2018, Stacy Lee prepared 3,728 tax returns and Heather Lee prepared 1,116 tax returns, the complaint alleges.

The government further claimed that Stacy and Heather Lee prepared false federal income tax returns, understated federal income tax liabilities, and improperly claimed tax credits in order to obtain inflated tax refunds for customers. The defendants fabricated deductions for charitable contributions, unreimbursed employee business expenses, and medical expenses; reported profits and losses for fictitious businesses; and claimed false education credits, energy credits, and childcare credits.

“The Tax Division will work with its IRS partners to shut down return preparers who claim improper or illegal deductions and credits for their clients,” said Principal Deputy Assistant Attorney General Zuckerman. “Taxpayers should be vigilant so they do not file tax returns claiming false deductions.”

Tax Planning Tip #1

NEVER sign a tax return without first reviewing it. You are ultimately responsible for what is reported on your tax return, even if the preparer included fictitious business losses to increase your refund or decrease the taxes you owe.

Tax Planning Tip #2

Inflating business profits may sound counter intuitive as one may think that the taxpayer would be subject to additional income taxes, but some tax credits, such as the earned income tax credit, could result in additional refunds to the taxpayer by showing more business profits.

Tax Planning Tip #3

Due to taxpayers filing false returns claiming tax credits, and tax preparers preparing false returns claiming illegitimate child care and tuition credits, the IRS is now requiring tax preparers to perform due diligence by asking questions and documenting the taxpayer’s responses to the required questions in the IRS’s efforts to combat tax fraud.

Tax Planning Tip #4

When you engage an unscrupulous tax return preparer, you are increasing the odds that your return will be audited by the IRS. When the IRS identifies an unscrupulous tax preparer, it runs the returns prepared by that person through IRS computers looking for similarities. For example, if a preparer is claiming erroneous childcare or educational credits, the IRS computers will identify all taxpayers who have claimed those credits who used that tax preparer.

Tax Planning Tip #5

Return preparer fraud is one of the IRS’ Dirty Dozen Tax Scams and taxpayers seeking a return preparer should remain vigilant. The IRS has information on its website for choosing a tax preparer and has launched a free directory of federal tax preparers.

The three preparers discussed above is a very small sampling of the types of tax preparers to avoid. In the past decade, the Tax Division has obtained injunctions against hundreds of unscrupulous tax preparers. Information about these cases is available on the Justice Department website. An alphabetical listing of persons enjoined from preparing returns and promoting tax schemes can be found on this page.

If you would like to discuss your business or personal tax planning, tax preparation and other financial concerns with an experienced tax professional, we invite you to call 610-594-2601 today to make an appointment at our Exton PA CPA office to discuss your situation. You can also schedule a consultation at Click Here.

BE SURE TO READ THE DISCLAIMER PAGE: Tax laws, IRS rules and regulations change frequently. Although we hope you’ll find this information helpful, this blog is for educational purposes only and should not be considered as the rendering of tax, legal or investment advice. The publisher shall not assume liability for any losses, injuries, or damages from the display or use of this information.

About F. Bryan Haarlander, EA, CTRS:

Bryan Haarlander is an IRS licensed Enrolled Agent and who owns and operates a specialized tax services firm serving clients in the western suburbs of Philadelphia, PA, which includes the cities of Chester Springs, Coatesville, Collegeville, Devon, Downingtown, Exton, Frazer, King of Prussia, Paoli, Philadelphia, Phoenixville, Pottstown, Radnor, Reading, Wayne, West Chester in Berks, Chester, Delaware, Montgomery and Philadelphia Counties, as well as clients in Delaware, New Jersey, New York and throughout the continental USA.

A Certified Tax Resolution Specialist, Bryan is well-known for his IRS tax resolution expertise and his book How to Resolve Your IRS Tax Debt Problems.

Hogs Get Slaughtered – IRS Reclassifies Business Deductions as Non-Deductible Personal Expenses

March 3, 2020 by Frank

IRS Visits Marina and Discovers Lots About Taxpayer’s “Business Deductions”

Background

Carlos and Pamela Langston (taxpayers) (TC Memo 2019-19) purchased a marina. The marina’s primary location had 100 covered dock slips and multiple structures. Its secondary location was a sailboat cove with 50 uncovered boat slips. The taxpayers purchased a Meridian 580 (yacht) for $246,920 to use as a sales office and a Raptor RV for $69,092 to use as a boat sales office and a place for nighttime security to use during their shift.

The taxpayer’s assets generated significant depreciation deductions for their LLC. They also claimed a significant loss from the sale of a former residence that they claimed was no longer a personal residence and had been converted to a rental property. The significant LLC depreciation deductions and the loss on the sale of the home prompted the IRS to conduct an audit examination.

Standard IRS Audit Procedure

Generally, when a taxpayer has significant assets and claims significant depreciation deductions, the IRS will want to verify that the assets exist. One such way to verify that the assets exist is to visit the premises of the taxpayer.

The IRS Visit to Taxpayer’s Place of Business

During the IRS agent’s tour of the yacht, the agent had the impression that the yacht was not used as a sales office. There were no placards, banners, or other identifying signage that would typically be found in a sales office. It was also discovered that the taxpayers did not maintain and business records or logs of boat sales on the yacht. The agent observed that the yacht contained numerous personal items.

During the IRS agent’s tour of the RV, the agent observed a suitcase, clothing, and a pot on the stove, again indicating it was being used for personal use.

The IRS accordingly denied the taxpayer’s claimed depreciation deductions for the yacht and RV because of the perceived personal use of these assets.

Loss on Sale of “Rental Property”

The taxpayer did not present any evidence to the court to show that the residence had been converted to a rental property with the intent to generate a profit. The Tax Court found the arguments made by the taxpayer not to be credible and lacked substance. Accordingly, the loss was denied because it was deemed personal-use property.

Tax Planning Tip #1:

The best and easiest way to prevail in an IRS audit exam is to have substantiation for the income and expense items shown in your tax return.

Tax Planning Tip #2:

This case is an example of a taxpayer not consulting with an experienced tax professional before filing their tax returns. Experienced tax professionals know what the IRS will request should the taxpayer be audited. By understanding IRS substantiation requirements and rules for claiming a business deduction, proactive tax planning may have adverted this audit examination. The taxpayers in this case were hogs and tried to claim business deductions on their personal assets . . . Never a good idea.

Tax Planning Tip #3:

Seek an experienced tax professional if a tax jurisdiction notifies you that an audit exam will be conducted on your return. While the cost of representation may seem expensive, it is not when compared to the taxes, interest and penalty assessments. An experienced tax pro knows how auditors work, the minimum substantiation they will accept, and how to negotiate with them in your best interests.

About F. Bryan Haarlander, EA, CTRS:

A Certified Tax Resolution Specialist, Bryan is well-known for his IRS tax resolution expertise and his book How to Resolve Your IRS Tax Debt Problems.

How Does Your Business View Taxes?

February 18, 2020 by Frank

Do You Simply Complain About Taxes, or Do You Have a Strategic Plan to Reduce the Taxes You Pay?

Background

We have yet met a businessperson who does not complain about paying income taxes. The typical small business owner works very long hours only to see the tax authorities walk away with a significant percentage of their earnings.

Despite not liking taxes and wanting to pay less of them, many entrepreneurs lack a tax strategy. The lack of a tax strategic plan can be quite costly.

Why Are Taxes Ignored

We believe that many entrepreneurs focus too much on making sales. From the day that the business begins, the business plan (assuming one exists) is to make as much revenue as possible to pay the expenses of the business. Business owners often ignore tax planning when the business is started because the owner is attempting to conserve cash because of limited financial resources and in the early years is reporting losses or minor profits. The owner very likely is thinking that “I’ll worry about tax planning when the business becomes profitable.” The problem with this approach is that it does not change when the business grows and taxes become a significant outlay.

While revenues from sales are very important, other facets of the business should not be ignored. One facet of the business that is often ignored is engaging in meaningful tax planning. Forget about net profits from a business perspective where net profits are equal to revenues less expenses. Remember that your “true” net profits are revenues less expenses, and one of the most significant expenses you pay, are income taxes. You need to think on a cash flow basis. If you can decrease the taxes you pay, your net cash flows will increase and your business becomes more profitable.

Examples of Meaningful Tax Planning

Work with an experienced tax professional. If you call your tax professional and s/he does not know the answer, do they get back to you after researching the issue? While working with an experienced tax professional may be more expensive, remember that you get what you pay for. If you attempt to cut corners, it usually will cost you more in the long run.

Consider taxes to be a business expense that needs to be periodically reviewed to keep it in check. If you take your tax liability as a percentage of your business revenues, where does it rank? It very likely is one of the largest expenses the business pays, if not the largest.

Periodically request a meeting with your tax advisor to discuss what s/he considers to be meaningful issues your business needs to address.

Work with a tax professional who keeps you abreast of current tax developments. If your tax pro has a blog, read it to keep abreast of important matters.

Read the information your tax pro sends you about important tax issues. After carefully reading those materials, call your tax pro to discuss how they may impact your business. Do not simply ignore those emails or letters thinking that they don’t apply to your business or you will get around to them later (you won’t).

Inquire if your tax entity is tax efficient. Tax laws are constanting changing. Have you reviewed your tax entity (sole proprietorship, partnership, C corporation, S corporation) with your tax advisor? The ideal tax entity when the business was formed may no longer be the ideal entity in today’s tax climate.

Understand how your business entity’s taxes are computed. It is not uncommon for a business owner not to understand how tax flow-through entities work, basis requirements, and what constitutes reasonable compensation.

Call your tax professional to understand how new tax laws impact your business. Tax laws are constantly changing. Perhaps you need to make changes in your business.

Compare the cost of buying new equipment against leading. Leasing conserves the initial cash outlay and may be a consideration if obsolescence is of concern or having the latest technological advances is necessary.

Tax Planning Tip:

Nobody knows your business better than you and nobody should be more concerned about controlling your company’s expenses than you. Taxes are a very significant expense for business owners. Be proactive and call your tax professional today.

About F. Bryan Haarlander, EA, CTRS:

A Certified Tax Resolution Specialist, Bryan is well-known for his IRS tax resolution expertise and his book How to Resolve Your IRS Tax Debt Problems.

Interstate Commerce Speed Trap – Wayfair Supreme Ct. Decision Rears Its Ugly Head

February 11, 2020 by Frank

Bensalem PA Business Owner Receives $1.6 Million Sales Tax Bill from California

Background

It was reported by the Philadelphia Inquirer that Brian Freifelder, who sells clothing, shoes, and groceries on Amazon.com out of a small warehouse in Bensalem, received an assessment notice from California that he could owe as much as $1.6 million for sales tax (just for the first six months of the year). CA says he is liable for the tax that he didn’t collect from consumers who bought his goods through Amazon. His tax attorney called this “an interstate commerce speed trap.”

Freifelder is among what is believed to be hundreds of thousands of third-party merchants on Amazon who were informed by the CA Department of Tax and Fee Administration that they should have been collecting taxes on sales to CA residents as far back as 2012.

When Amazon opened its first warehouse in California in 2013, it escaped the obligation to collect the taxes on sales by third-party merchants on the company’s site, apparently by convincing state officials that it was not the retailer obligated to collect sales tax in those cases — a distinction that has since been undermined by court decisions in South Carolina, Pennsylvania, and elsewhere.

CA’s position is that when Freifelder’s goods showed up at an Amazon warehouse in CA, he had the same obligation to collect sales tax as any retailer with a store there — even if he had no idea where Amazon was storing his goods.

Current Tax Rule

CA and other states now require “marketplace facilitators” to collect sales taxes. PA has issued its rules in Sales and Use Tax Bulletin 2019-01 which became effective for transactions that occurred on or after July 1, 2019. We discussed the revised economic nexus standards for PA and Philadelphia in our August 7, 2019 blog and NJ and PA’s reaction to the Wayfair court case in our December 19, 2018 post.

The Wayfair nexus standard not only affects sales taxes. PA Updated its corporate income tax nexus standard as we discussed on November 7, 2019.

We discussed the 2018 U.S. Supreme Court Wayfair decision on July 24, 2018 which did away with the decades-old standard that states could force retailers to collect sales tax only if they had a physical presence in the state, making marketplace facilitator laws possible.

Tax Planning Tip:

If you are a seller of tangible goods and you have not already contacted your tax professional to evaluate your nexus tax exposure, do so today rather than wait to receive your $1.6 million tax assessment notice.

About F. Bryan Haarlander, EA, CTRS:

A Certified Tax Resolution Specialist, Bryan is well-known for his IRS tax resolution expertise and his book How to Resolve Your IRS Tax Debt Problems.

Tax Treatment for Family Members Working in the Family Business

February 4, 2020 by Frank

It May be Advantageous to Employ Your Spouse, Children, & Parents in Your Family Business, But You Need to Understand the Tax Rules

Both Spouses Carrying on Trade or Business

If spouses carry on a business together and share in the profits and losses, they may be partners whether or not they have a formal partnership agreement. If so, they should report income or loss from the business on Form 1065. They should not report the income on a Schedule C (Form 1040) in the name of one spouse as a sole proprietor. But, the spouses can elect not to treat the business as a partnership by making a qualified joint venture election.

Qualified Joint Venture Election

Spouses may elect treatment as a qualified joint venture instead of a partnership. A qualified joint venture conducts a trade or business where:

The only members are a married couple who file a joint return,
Both spouses materially participate in the trade or business, and
Both spouses elect not to be treated as a partnership.

Only businesses owned and operated by spouses as co-owners and not in the name of a state law entity, such as a limited partnership or limited liability company (LLC), are eligible for the qualified joint venture election. Find more information on joint ventures in Publication 541, Partnerships.

Spouses electing qualified joint venture status are sole proprietors for federal tax purposes. Each spouse must file a separate Schedule C to report their share of profits and losses. One spouse cannot continue to use the partnership’s Employer Identification Number (EIN) for the qualified joint venture. The EIN must stay with the partnership; it’s used by the partnership for any year in which the business doesn’t meet qualified joint venture requirements.

Employment Taxes

If the business has employees, either of the spouses as sole proprietors may report and pay the employment taxes. The spouse, as an employer, must have an EIN for their sole proprietorship. If the business filed or paid employment taxes for part of the year under the partnership’s EIN, the spouse may be considered the employee’s “successor employer” for purposes of figuring whether wages reached the Social Security and federal unemployment wage base limits.

One spouse employed by other spouse:

The wages for the services of an individual who works for their spouse are not subject to the Federal Unemployment Tax Act (FUTA). However, such wages are subject to income tax withholding and Social Security and Medicare taxes.

Child employed by parents:

Payments for the services of a child under age 18 aren’t subject to Social Security and Medicare taxes, if the business is a sole proprietorship or a partnership in which each partner is a parent of the child. Payments to a child under age 21 aren’t subject to FUTA. Thus, the payroll tax savings are obvious. However, payments to children are subject to income tax withholding, regardless of the child’s age. Nevertheless, total family-paid income taxes can be reduced by shifting some of the parent’s high-taxed income into the child’s lower income tax bracket. A properly executed W-4 by the child may avoid the income tax withholdings.

If the child makes an IRA contribution on his/her earned wages, additional income taxes could be saved. If the business has a retirement plan for its employees, the parents need to consult with that plan’s advisor.

Keep in mind that the IRS may disallow wages paid to a child. You need to understand the three factors that the courts look at to determine if wages paid to a child are tax deductible. The wages must be reasonable; paid for services actually rendered; and the wages are actually paid (not a journal entry) and best to be deposited into the child’s bank account. In addition to IRS scrutiny of employing children in a business, there are U.S. and state Department of Labor rules to consider.

Other considerations are (1) the impact that those wages may have on the child qualifying for education aid; (2) providing pre-tax plans for your employees; (3) health care premiums paid by the business; (4) by adding a child to the payroll and providing benefits, how are other employees affected?; and (5) if the business has no existing employees, there will be additional costs related to setting up a payroll.

Payments for the services of a child are subject to income tax withholding as well as Social Security, Medicare and FUTA taxes if they work for:

A corporation, even if it’s controlled by the child’s parent, or
A partnership, even if the child’s parent is a partner, unless each partner is a parent of the child.

Parent employed by child:

The wages for the services of a parent employed by their child are not subject to FUTA tax. However, such wages are subject to income tax withholding and Social Security and Medicare taxes.

Employees complete Form W-4 so that their employer can withhold the correct federal income tax from their pay. The IRS encourages everyone to use the Tax Withholding Estimator to help them make sure they have the right amount of tax withheld from their paycheck. The estimator automatically links to Form W-4, Employee’s Withholding Allowance Certificate, which they can then fill out and submit to their employer.

About F. Bryan Haarlander, EA, CTRS:

A Certified Tax Resolution Specialist, Bryan is well-known for his IRS tax resolution expertise and his book How to Resolve Your IRS Tax Debt Problems.

Why Does It Take the IRS So Long to Issue Your Tax Refund?

January 28, 2020 by Frank

Is “Filter X: to Blame?

Background

Perhaps you are one of the many taxpayers who are concerned that your refund took forever to be processed by the IRS. Your tax professional instructed you to check the IRS’s website Check My Refund Status. Frustrated, you called the IRS (1-800-829-1040) and after being placed on hold for an eternity, the person who answered the phone was of little help.

If your call to the IRS was answered, you were one of the “lucky” taxpayers. During fiscal year 2019, the IRS received approximately 100 million telephone calls, but the agency’s customer service representatives answered only 29 percent of the calls.

The Reason for the Delay

Per the IRS’s Taxpayer Advocate Office (TAO) 2019 annual report to Congress, one of the most serious problems with the IRS is its processing of refunds.

The Internal Revenue Service’s new anti-fraud filters are unnecessarily flagging millions of tax returns and delaying legitimate tax refunds for weeks or months, according to a new report from the TAO.

The report noted that during the 2019 filing season, the IRS used a new refund fraud filter known as “Filter X” that ultimately flagged and stopped the processing of nearly 1.1 million tax returns. About a quarter of those refund delays took more than 40 days to process; about one-half took more than four weeks to be processed, and a review of 309 cases by the TAO showed that 236 taxpayers had to wait an average of 141 days. Moreover, the false positive rate for other non-identity theft refund fraud filters was a whopping 71 percent. That means 71 out of every 100 tax refunds stopped by the IRS’s fraud filters were ultimately determined to be legitimate.

Tax Planning Tip

Delays in issuing refunds often cause financial hardship to taxpayers who depend upon those refunds. While it is nice to receive a refund rather than owe the IRS come April 15^th, when you significantly overpay your taxes you are giving the IRS an interest-free loan.

The objective should be to file your tax return with an insignificant refund due you or a small balance owed to the IRS. This “break-even” can be achieved if a taxpayer works closely with their tax professional throughout the tax year to ensure that W-2 wage withholdings or estimated tax payments closely approximate the projected final taxes due.

About F. Bryan Haarlander, EA, CTRS:

A Certified Tax Resolution Specialist, Bryan is well-known for his IRS tax resolution expertise and his book How to Resolve Your IRS Tax Debt Problems.