Tuesday, June 30, 2009

A NEW DEBATE BEGINS!

Here is my response to Peter Pappas' response to my response to his post.
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I am a self-taught tax professional who has been preparing 1040s manually since 1972.
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I did not learn tax law in school. My college credentials are based on "life experience" and were acquired solely to satisfy my family.
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On my first day working for my uncle's tax preparer in February of 1972, with no previous knowledge of taxes, my employer/mentor gave me a copy of a previous year's tax return and a suitcase filled with the 1971 information and told me to "jump in and swim". I learned how to prepare 1040s by preparing 1040s.
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I am not a CPA (although I did work for one of the then "big eight" CPA firms early in my career as a "para-professional") or an Enrolled Agent. I have no desire to audit financial statements and I do not wish to represent taxpayers before the IRS, although I will assist existing clients who are being audited. My practice is currently limited to 1040 preparation, although I still do a few corporate returns for long-time clients and friends.
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I do not file federal returns electronically because it is not free so to do (as it is with NJ state income tax returns, which I do file "electronically" online whenever possible).
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I based my comments in the post "Red Flags?" on my 37 years of personal experience in "the business" preparing 1040s for individuals in all walks of life.
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With the exception of Schedule C losses, I do not believe that the mere claiming of one of Pete's "red flags" will increase one's chances of an audit. I have claimed rental losses, employee business expenses, the home office deduction, charitable contributions, and Schedule C losses for thousands of clients over the years and have had to deal with only a minimal amount of office audits - I can count the number on the fingers of both hands.
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I do agree that if a return is chosen for audit these items may perhaps receive special attention. I also agree that these items are certainly areas where errors and tax fraud are likely to exist, and areas where unethical tax preparers, and taxpayers themselves, have, as I said, inflated or just plain made up deductions in the past.
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I agree with the following statement -
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"As a citizen, you have an obligation to the country's tax system, but you also have an obligation to yourself to know your rights under the law and possible tax deductions --and to claim every one of them." - Former IRS Commissioner Donald Alexander.
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I believe that if a taxpayer has truly incurred legitimate deductible expenses, regardless of the nature, he/she should claim these deductions in full. I also believe that taxpayers should keep detailed records of all deductible expenses so their arse is covered in the case of an audit.
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I do not believe that one should be scared off from claiming legitimate deductions for fear of being audited.
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I believe that Peter and I differ in our opinions based on our individual "points of view". I am a tax preparer. I prepare tax returns. Peter is a tax lawyer. Generally taxpayers contact a tax lawyer when they are in trouble with the IRS, and after they have been selected for audit or at various levels in the audit process. I have no doubt that Pete, in dealing with clients, has encountered more taxpayer problems with the items he has listed than with any other areas of income of deduction.
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I do not believe that Pete has any more access to internal IRS practices and procedures than I have. His comments are based solely on his personal assumptions.
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When I discuss tax preparation software in my post I am referring to a taxpayer preparing his/her own return using tax preparation software, not tax preparation software being used by a paid tax professional. I have said time and again that no tax preparation software is a substitute for knowledge of the Tax Code, and no tax preparation software is a substitute for a competent tax professional. My concern is with individuals with no tax knowledge thinking that they can prepare an accurate return simply by using boxed software.
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Most tax professionals who use tax preparation software have knowledge of the Tax Code and "know what they are doing". Yet at just about every tax seminar and workshop I attend someone has a complaint about how their software handled an issue and tells how they had to "force" the software to accept the correct answer or application of tax law.
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Using tax preparation software does not guarantee an accurate return, regardless of who is using it. A tax return generated by software is more likely to me "mathematically" correct but not necessarily more likely to be "tax law" correct. The basic law of software applies here - garbage in, garbage out.
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It is not, in my opinion, "reasonable, then, for the IRS to assume that a tax return that is prepared manually is more likely to contain errors than is one that is prepared by computer".
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I agree that "it is common knowledge that sloppy returns are more likely to be audited than neatly prepared" returns. For years I have been saying, "If the IRS can read the return they are less likely to question it". But who says all manually prepared returns are "sloppy". Pete has never seen my handwriting. My handwritten returns have been called "works of art" by both the IRS and other preparers.
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I certainly agree with Pete when he says, "the odds are better that a return will be accurately prepared by someone who has more training in tax law than by someone who has less training in tax law". Hey, it is a no-brainer. But I certainly do not agree with the statement, "CPAs tend (not an absolute, Robert) to be more qualified than non-CPAs in the accurate preparation of tax returns".
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I will say it again - the mere existence of the initials CPA after one's name does not necessarily imply that one has more training in tax law than a currently "nonenrolled" preparer. There are, to be sure, many excellent and competent tax preparers who happen to be CPAs. But, as I have said in a different post, "this is only because of the education, experience, ability, temperament, and other factors that are specific to that individual preparer and nothing whatsoever to do with their designation".
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I strongly doubt that "given the choice to audit one of two identical returns, one self-prepared or prepared by a non-licensed preparer, the other prepared by a licensed preparer, the IRS will always choose to audit the former." A return is selected for audit based on the numbers entered on the return and not who prepares the return, with the exception of those on an IRS list of questionable preparers that I discussed in the post.
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And, Pete, a CPA is not a "licensed tax preparer". A CPA is a licenced accountant, authorized to certify audits of financial statements. The only current "licensed tax preparer" is an Enrolled Agent.
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I do not think that an IRS review of a return that has been "kicked out" but the DIF scoring process gives anyone the "benefit of the doubt". If the numbers on a return warrant an audit then the return will be selected for audit, whether the return was prepared by a huge CPA firm or by "Joe's Neighborhood Tax Service".
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Peter agrees with me on the subject of licensing "unenrolled" tax preparers. If this practice did indeed exist I would certainly agree that it would be "more likely that a non-licensed preparer will make preparation errors than a licensed one." Unfortunately as it now stands competent, experienced and ethical "unenrolled" preparers are lumped together with the uneducated and unethical quacks and crooks.
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I stand by my comments in my post, and especially my "bottom line". Pete and I must "agree to disagree".
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And, Pete, as I have told Joe Kristan - I was not scared by a CPA as a child!
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I would be interested in hearing from other tax professionals - CPAs, EAs and "unenrolled" preparers - on this topic.
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TTFN

THE FINAL WORD!

There has been a lot of posting throughout the "tax-blogosphere" during the past few weeks on the topic of regulating tax preparers - both pro and con. I have done my share of posting, and commenting, on the "pro" side.
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You will find an excellent "recap" of the debate at the "tax guy" blog - click here.
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Before I put this topic "to bed" let's take one last look at the arguments.
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First and foremost, it appears that everyone on both sides agrees pretty much that registering and licensing currently "unenrolled" tax preparers (like myself) will do little, if anything, to cut down on fraudulent tax returns and unethical preparers.
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Just as regulation of CPAs, lawyers, and doctors has not rid us of unethical members of these groups, regulation of tax preparers will not rid us of unethical tax preparers.
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Opponents to licensure say that we do not need an expensive and convoluted system that will place a harsh financial burden on both the IRS and the honest and ethical unenrolled tax preparer.
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Granted Congress and the federal government could "fuck up a high mass", as the saying goes. Monica Lawver, the TAX CPA, puts it a little more delicately, "In my experience, government )and the IRS in particular) does not operate efficiently."
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But if done reasonably and properly (yes I know these are two words not often associated with Congress, the federal government, or the IRS) the regulatory system does not have to be a complicated and expensive mess.
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The beginnings of registration already exist with the current PTIN registry. The application and renewal process, and accompanying fees and CPE requirements, could follow the system already used for Enrolled Agents (EAs). There would be an initial application fee of perhaps $125.00 and renewal every one, two or three (as is the case with EAs) years at perhaps $50.00 per year. EAs must earn an average of 24 CPE credits per year, with a minimum of 16 hours in any one year, to maintain their "enrollment". This sounds like a reasonable requirement for licensure.
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The IRS already offers a good source of reasonably priced CPE offerings with its annual Nationwide Tax Forums, although the price has been steadily increasing. If all tax preparers are regulated this program could be expanded to at least double the number of locations where the forum is presented.
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CPE does not have to be earned at a sit down class. There exist many opportunities, through NATP for example, for continuing education credits to be earned through "self-study" or online, making the costs of earning the required credits even cheaper.
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There does not need to be any FBI background checks or fingerprinting or any other such invasive requirement for licensure. Just pay a fee and either pass an initial at most one-day proficiency exam or be "grandfathered" in via length of service and a CPE look-back requirement, earn the required annual CPE credits, pay a renewal fee periodically, and don't break the rules.
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I expect that there would be a minimum return requirement for licensure. One would have to prepare at least 25 or so returns professionally (i.e for a fee) per year to be covered by regulation. This way Uncle Joe, a retired accountant who prepares the returns for his extended family only in exchange for dinner or gas money, would not have to face sanctions for "practicing without a license".
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The cost of administering such regulation would be covered for the most part by the application and renewal fees, which could generate $125 Million initially and $50 Million per year.
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Most people will agree that licensing accountants, lawyers, doctors, barbers, electricians, etc is better than not licensing them. And so licensing tax preparers is better than not licensing them. Currently anyone who can add can hang out a shingle as a "professional tax preparer" and there is nothing to contradict them. While it is not the best argument in the world - "it couldn't hurt" is still a valid one.
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For me the most important value would be in putting the competent, experienced, and ethical previously "unenrolled" preparer on an equal footing (a term used by one proponent) with the CPA in the eyes of the general public. It would dispel the unfounded "urban tax myth", perpetuated perhaps more by uninformed journalists and bloggers than by the CPA community, that only CPAs are tax experts.
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CPAs who want to prepare tax returns would also have to meet the annual CPE requirements in "taxation" that other newly licensed preparers would, and EAs would be automatically grandfathered in by virtue of the fact that they are already licensed tax professionals. So instead of CPAs, EAs and unenrolled preparers who prepare tax returns there would be only one category - the Licensed Tax Practitioner.
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For as long as I have been in practice, I, a competent, experienced, ethical tax preparer, have been placed in the same "category" as the individual who has read the IRS instruction booklet and done his own return a couple of years and now decides to hang a sign in the window and prepare tax returns in between haircuts at the barber shop where he works! As a Licensed Tax Practitioner I, and hundreds of thousands like me, can finally get the respect we deserve!
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It would be nice if along with licensure Congress would also forbid Licensed Tax Practitioners from offering Refund Anticipation Loans (RALs) directly to clients. Just a thought.
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But despite all the talk on the subject I expect the bottom line has been provided to me by respected fellow tax blogger Professor James Maule of MAULED AGAIN (who has not blogged on the topic but told me that he agrees with those of us who want to license tax preparers). According to Jim -
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"Ultimately I don't think anything will happen. Congress is doing other things, and yet it will find time to tell the IRS to relent on its proposals."
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If I can be permitted one last comment before I say good-bye to the subject - AccountantsWorld.com has a discussion page on the topic of licensing tax preparers with many, many comments from practicing tax professionals in all categories - CPAs, EAs, non-certified accountants, and unenrolled preparers (click here to review the comments).
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I was interested, and pleased, to find that quite a few of my fellow unenrolled preparers who posted on this message board have joined me in saying that they have found more errors on tax returns prepared by CPAs than any other category of preparer!
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'Nuff said!
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TTFN

Monday, June 29, 2009

RED FLAGS?

Peter Pappas has written a post at THE TAX LAWYER'S BLOG identifying what he considers to be "5 Slam Dunk IRS Audit Red Flags". The 5 items he says IRS examiners are trained to look for as they "indicate a high probability of error or fraud" are -
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* Home Office
* Employee Business Expenses
* Rental Losses
* Schedule C Losses
* Charitable Contributions
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I think Pete is somewhat misleading in his post. When he refers to these items as "red flags" I do not think that it is true that anyone who claims one of these items on their Form 1040 will automatically be audited - or even that their existence on a tax return will substantially increase the chance of an audit (with a possible exception discussed below).
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The mere fact that you claim a deduction for employee business expenses will not increase your chance of being audited.
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Pete correctly describes the method used by the IRS to select returns for audit - "The IRS assigns a numeric value to each tax return known as a DIF score. Returns with a DIF score higher than a pre-specified number are flagged and sent to the IRS regional examiners for further review and analysis."
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Information from your tax return is entered into a computer. The "DIF score" is based on IRS internal parameters for individual items of income and expense build into the analysis software.
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While excessive deductions claimed in any of Pete's 5 alleged red flags may increase your DIF score such that it is passed along for further review, the mere existence of these items on a return does not, I believe, increase the score (with, again, a possible exception discussed below).
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I, and I am sure Pete also, certainly would not want to scare you from claiming any legitimate deduction because it may cause your return to be audited. If you spent the money for a genuine business purpose, or made the contribution to a qualified charity (and have the required documentation), you should by all means claim a deduction.
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I do believe that these five areas are indeed "tax return items that indicate a high probability of error or fraud" and have been so identified by the IRS. And I do believe that if a return is "kicked out" by the DIF scoring process and any of these individual items show a substantial variance from IRS-considered "norms" they are looked at ore closely.
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I also agree with Pete's "common threads running through the five items" -
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"First, each of these items requires a subjective judgement to determine whether and to what extent a deduction is permitted. The more subjectivity involved, the greater the likelihood of mistake or outright abuse.
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Second, at least with respect with the first 4 items, these deductions tempt taxpayers and unscrupulous tax preparers to try to convert personal, non-deductible living expenses into deductible expenses."
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And, if I may add a third based on my own personal experience and that of other ethical tax pros, with all items these are the deductions that unscrupulous tax preparers have in the past often "inflated" or just plain "made up" to reduce a balance due or increase a refund.
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As I pointed out in my appropriately-titled post "Audits" -
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"In my 35+ years in 'the business' I expect I have prepared at least 10,000 sets of tax returns. During these 35+ years I can count on the fingers of my two hands the number of traditional IRS office audits I have had to deal with - none of which have been in the past 10 or so years."
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Over the years returns that I thought would be audited because of excessive deductions, attested to be legitimate by my clients, were never chosen for review. I have never had an audit of a return claiming rental losses, a home office, or a Schedule C loss, although employee business expenses and charitable contributions have been questioned.
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After Congress came out with its strict new documentation rules for claiming a deduction for charitable contributions tax pros, myself included, anticipated a substantial increase in the number of audits of this deduction, and expected that many clients, chosen at random, would receive "correspondence audit" notices from "Sam" requesting documentation of contributions deducted on Schedule A. This did not happen.
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However, if a return is selected for audit and the return claims more than nominal charitable contributions I would expect that documentation would be requested.
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One area where I do believe that the existence of the item may be, or possibly will be, a true "red flag" is Schedule C losses.
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As far back as December of 2006 then IRS Commissioner Mark Everson said that the IRS plans to conduct more audits on individuals with sole proprietorships. The IRS strongly believes, and frankly so do I, that a sizable portion of the "Tax Gap" (the difference between the taxes the government actually collects and what it thinks it should collect) is attributable to unreported income by self-employed persons.
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When Everson introduced his plans Schedule C returns were already being audited more frequently than "non-Schedule C" returns. As budget deficits continue to soar Congress and the IRS will be taking more action to reduce the Tax Gap and generate more federal income - and Schedule C returns with consistent losses is one area where the IRS will be concentrating its efforts.
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The post correctly observes that - "The mere reporting of business operations on Schedule C rather than a separate corporate tax return increases a taxpayer's chances of being audited 50 fold." Regardless of Tax Gap considerations, one of the reasons has always been to do with level of income. The greater one's "gross income", from whatever source, the greater the choice of an audit. A gross income, before expenses, of $250,000 reported on Schedule C is high when compared to the total 1040 "population", but minuscule when compared to the 1120 (corporate income tax return) population.
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Pete says, "Because there is so much abuse in the Schedule C loss area, we have adamantly recommended that taxpayers who are conducting a legitimate, for-profit business incorporate that business or form an LLC."
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While incorporating will certainly reduce one's 1040 audit risk, it is more often than not not the best idea for the average sold proprietorship. Incorporation can generate much more paperwork, recordkeeping, federal and state tax filings, costs, and general all-round "agita" than it is worth.
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Like a marriage - it may be relatively cheap to "get into" a corporation, but it can be highly expensive to "get out". A Schedule C filer who is considering incorporation should review very carefully all the consequences of such an action and do a detailed cost benefit analysis.
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I also recommend that all Schedule C businesses become an "LLC" - but it has nothing to do with taxes. Doing so adds an extra degree of liability protection.
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If you have a legitimate ongoing Schedule C business you probably should consult an accountant (not necessarily a CPA) instead of just a basic tax return preparer on a year-round basis. Some tax professionals are also available to provide excellent accounting services for small businesses throughout the year, while others, as I currently do, limit their practice to 1040 preparation. You can use the accountant for year-round accounting, bookkeeping, and payroll services and still have a separate tax pro prepare your 1040. The accountant can provide a "profit and loss" statement for use by the tax pro in completing the Schedule C.
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Pete provides the following "final thoughts" for those with potential "red flags" -
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"If you do decide to take one or more of the above deductions, there are several things you can do to dilute their red flag status.
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1. Timely file our return;
2. Use a recognized software program to prepare and print your return;
3. File the return electronically;
4. Have a respected CPA, tax lawyer or IRS Enrolled Agent sign your return as tax preparer; and
5. Attach explanatory statements to your return where necessary."
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I do not agree with most of these thoughts.
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1. The only one with which I concur. You should always, whenever possible, timely file your return. It is an "urban tax myth" that extending your return will reduce your chances of audit.
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2. You should never use a "box" to prepare your return unless you know what you are doing. It is more cost effective in the long run to use a competent tax professional.
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3. I do not think this makes any difference.
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4. In my 37 years in "the business" I have never come across anything that would lead me to believe that the "designation" of a tax preparer is a factor in audit selection. Returns prepared by CPAs, lawyers, and EAs are audited just as often as those of "unenrolled" preparers. And the IRS knows full well that there are incompetent and unethical CPAs, lawyers, and EAs, just as there are incompetent and unethical "unenrolled" preparers. The IRS does not say, "If the return was prepared by a CPA it must be accurate". That is utterly ridiculous. The IRS does have a list of "red-flagged" preparers, of all "designations", who are suspected of unethical practices, and the returns of these preparers are reviewed more closely than those of the average preparer.
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5. There are two schools of thought on this issue. Some tax pros feel that the more explanatory documentation you attach to a return the less likely the chance of any questions. Others feel that "less is more" - only attach to the tax return items that are absolutely necessary and do not clutter the form with unrequested or unnecessary schedules and attachments. I tend to lean more in the "less is more" direction, although I do believe that you should attach explanatory statements when appropriate. For example, in most cases if I claim more than $5,000 for cash contributions I will attach a statement listing the various charities by amounts (i.e. St. Mary's Church $2,500, Columbia University $1,000, Hurricane Victims Fund $1,000, United Way $650, Other Church and Charity $150). I do not, however, attach copies of receipts, acknowledgements, or documentation for the actual contributions.
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My bottom line - if you have a genuine home office that meets all the requirements in the Tax Code, or have legitimately incurred out of pocket "ordinary and necessary" expenses in connection with your job or profession, or have made contributions to church and charity, etc. do not hesitate to claim these deductions on your Form 1040. Do not omit them because you think they will cause your return to be audited. However, as with any business or personal deduction, make sure you have adequate documentation to substantiate the deduction.
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TTFN

Saturday, June 27, 2009

WHAT’S THE BUZZ? TELL ME WHAT’S A HAPPENNIN’ –

Lots of excellent BUZZ this week - be sure to check them all out.
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* Nothing to do with taxes exactly - but JibJab, who had so much fun with W's presidency, has a new parody on BO - "He's Barack Obama".
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* The tax pro licensing debate continued in the tax-blogosphere.
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Another one for my side! "Opinion - Certifying Tax Preparers" by G Christopher Wright, a CPA from Virginia who writes THE TAX LAW REPORT blog.
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And Joe Kristan responded to Pete Pappas in "Wasting Money: What's the Big Deal".
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* Roni Deutch reports "4th of July Tea Parties Planned" at her TAX LADY blog.
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* The Summer 2009 edition of the Tax Foundation's TAX WATCH newsletter is available to download. Click here.
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Included is an article which discusses a new poll that indicates 4 out of 5 adults feel the Tax Code is too complicated and needs to be completely overhauled.
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* Speaking of the Tax Foundation, the TAX POLICY BLOG tells us that "Oregon Senator Proposes Breastfeeding Tax Credits". The post makes an excellent point -
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"This is another example of why our tax code is so complex and difficult to navigate. No doubt breastfeeding has supporters who think its a good idea. But rather than relying on persuasion, or even direct spending programs that have to prove themselves each year, many special interests resort to using the tax code to encourage or discourage their vision of the world. Subject to less oversight and scrutiny, credits clutter up the tax code and distort decision-making."
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* Frankly there are few things about which I could care less than the marital problems of a reality show couple who decided to ruin their lives, and potentially that of their children, for money by filming their life for television.
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Any idiot who trades self-respect and privacy for cash and 15 minutes of fame to be on a so-called reality show deserves all the bad things that happen to him/her. It is unfortunate that, in this case, the innocent "eight" will also suffer because of their parents' selfishness.
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Perhaps the only good thing that has come from this reality show (a phrase that cannot be used for any other show of this genre) is that is "inspired" Kay Bell to write the post "Jon and Kate Plus 8 Divorce Tax Tips" at DON'T MESS WITH TAXES, a good compilation of tax planning tips for those in the process of divorcing. One of her tips includes a link to a TWTP post!
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* Peter Pappas of THE TAX LAWYER'S BLOG provides us with an interesting post titled "The Myth of the Evil Rich: I'll Believe in Winged Steeds First!".
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While I do admit that there are those among the rich who have amassed their fortune in a less than ethical or moral manner, and that there are those in the lower income brackets who have been faced with more than average disadvantages and obstacles, I do strongly agree with the bottom line of Pete's post -
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"People who fail to succeed in life - however they define success - do so largely because of their own prior bad choices and not because, as the collectivist left would have us believe, that the rich conspired to keep them down."
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Basically - we make our own beds. Each individual is responsible for his/her own current financial situation.
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And I also very much agree with Pete's comments on the dangers of the Myth of the Evil Rich.
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*Babyboomer provides some good advice for individuals who live in areas with potential for hurricane damage in the post "Safeguarding Tax Records for Hurricane Season" at TAX RESOLUTIONARIES.
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* Kathleen Webb discusses a timely topic in "Summer Nannies & the Nanny Tax" at her NANNY TAX AND PAYROLL UPDATES blog.
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* The National Association of Tax Professionals (NATP) weekly email newsletter reports that -
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"On July 24, 2009, the federal minimum wage for non-exempt employees increases from $6.55 per hour to $7.25 per hour. This is the final phase of the wage increase that was enacted under the "Fair Minimum Wage Act of 2007".
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Employers of tipped employees are still only required to pay $2.13 per hour if that amount plus tips received equals the federal minimum wage and:
  • The employer informed the employee that the tip credit is being taken;
  • The employee keeps all tips unless they participate in a tip sharing arrangement;
  • The employee customarily and regularly receives more than $30 per month in tips.

The youth minimum wage also remains the same. Employees under 20 years of age may be paid $4.25 per hour during their first 90 consecutive days of employment."

* Another victory in the battle against usurious Refund Anticipation Loans (RALs) pushed on clients by fast food tax preparation chains! This time is wasn't against Henry and Richard. WebCPA reports that "Liberty Tax Services Loses Deceptive Ad Suit."

According to California Attorney General Jerry Brown-

"Liberty Tax Service lured cash-strapped Californians into paying for high-cost loans, when they could obtain tax refunds free from the IRS just weeks later. This ruling bars Liberty from deceptive advertising that blurs the line between IRS tax refunds and pricey loans."

The article states that -

"Liberty Tax Service's print and television ads misled customers by promising 'Most Refunds in 24 Hours', according to Brown. In reality, Liberty was selling refund anticipation loans, not a tax refund. Customers had to pay an upfront fee of about $30 plus interest, at a rate that could be as high as 395 percent annually. According to the IRS, refund anticipation loans target low-income taxpayers, especially those who receive the Earned Income Tax Credit. Approximately 70 percent of Liberty's refund anticipation loan customers in 2006 and 2007 received this credit."

The ruling requires Liberty to pay $1.16 Million in civil penalties, $135,886 in restitution, and the Attorney General's costs.

Brown had reached settlements with Jackson Hewitt in 2007 and with Henry and Richard in 2009 over RALS.

Right on, Jerry!

* A "tweet" from NATP "turned me on to" this website on the new Car Allowance Rebate System (CARS) - aka the Cash for Clunkers program - which was recently signed into law by BO.

TTFN

Friday, June 26, 2009

NJ PASSES BUDGET – TAXPAYERS SCREWED AGAIN

According to the New York Times, "New Jersey lawmakers passed a $29 billion budget largely along partisan lines on Thursday night that will increase taxes by almost $1 billion, eliminate property-tax deductions for the wealthiest citizens and pare billions from health care, higher education and other programs".
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Taxpayers get higher taxes and less services while the bloated politicians continue to wallow in pork.
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Here are some of the highlights, based on what I have read so far this morning -
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* A one-year state income tax increase on individuals making more than $400,000 a year, moving the top tax rate to 10.25%.
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* At least for a year taxpayers with incomes of more than $250,000 a year will no longer be able to deduct their property taxes. Those making between $150,000 and $250,000 will be able to deduct a maximum of $5,000.
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* Individuals who win $10,000 or more in the NJ State Lottery will be taxed on the winnings (previously NJ Lottery winnings were exempt from NJ state income tax).
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* Limiting the NJ Homestead Rebate to households earning less than $75,000, and eliminating altogether tax rebates for renters (like me) - except, presumably, seniors and the disabled.
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* Taxes will go up by 12.5 cents per pack on cigarettes and 25% on hard liquor and wine.
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Republican State Senator Christopher Bateman of Somerset County summed up the new budget excellently - "This is only going to add additional pain to the taxpayers, who are suffocating now with taxes".
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Pennsylvania looks more attractive every day!
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TTFN

Thursday, June 25, 2009

MONEY HACKS CARNIVAL

Just found out that my post on "What Happens in an IRA Stays in an IRA" appears in the "Money Hacks Carnival #70" at BLOGGING BANKS.
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It is the "editor's pick" in the TAXES category!
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Check out the Carnival - it has lots of interesting stuff.

IF YOU WILL INDULGE ME A LITTLE LONGER

I don't mean to do to the topic of regulating tax preparers what David Letterman does with a lame comedy bit - beat it to death. I promise that, with the possible exception of a final summary post, this will be my last commentary on the subject for a while.
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Opponents of regulating tax preparers continually mention the great "burden" that this will put on the honest and ethical preparer. I am at a loss to figure out what they mean.
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I am an honest and ethical "unenrolled" tax preparer. If I were required to be registered and licensed to continue to practice what would happen?
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(1) I would need to fill out an initial application form, which would certainly not be done during the tax filing season. How long could this take - an hour or two?
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(2) I would need to pay an initial registration fee of, say, $125.00 with the submission of my application form. Hardly a financial hardship.
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(3) While there could be an initial proficiency test, I expect that I would be exempt under some kind of "grandfather" clause which must be part of any licensure legislation, for practicality sake if nothing else.
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(4) I would be required to earn a minimum number of CPE credits during a period of time, which would probably average at least 24 hours per year. That comes to three 8 hour days of continuing education in a year. I already average more than that per year. No additional cost of time involved, at least for me.
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(5) I would have to reapply every 1, 2 or 3 years. I would have to fill out a form reporting my CPE hours earned for the period - one hour tops - and pay a renewal fee that would probably be no more than $50.00 per year. Big whoop!
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So where is the great "burden"?
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The newer or just starting out preparer who would be required to take an initial proficiency test would need to, perhaps, spend some time and money on a review course - 1 or 2 days and maybe $500.00 out of pocket. And then spend a day taking the test.
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And those who do not average 24 hours of CPE credits per year would have to spend a little more time and money. But, as I have said before, if a tax preparer is not spending at least 3 days a year on continuing education he/she should be, license or not.
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Still no great burden.
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And, besides, the cost of all this would be tax deductible as an ordinary and necessary business expense.
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So I ask those who oppose regulation - where is the great burden that would be placed on honest and ethical tax preparers?
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TTFN

Monday, June 22, 2009

AND THE BEAT GOES ON

Regulation of unenrolled tax preparers has certainly become a hot topic among tax bloggers. Here are some more posts on the topic -
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* Pete Pappas adds to the debate with a direct response to one of Joe Kristan's posts on the subject in "Tax Preparer Regulation: A Response to Joe Kristan" at the TAX LAWYER'S BLOG. Pete joins me on the pro-regulation side of the issue. Joe Kristan has promised that his return volley is forthcoming.
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* Bruce the taxguy also throws in his 2 cents in "Tax Preparer Registration", also joining me on the pro side. This post is a good source of links to most previous blogs in the debate.
* While not directly responding to the issue of regulating unenrolled preparers, Monica Lawver, THE TAX CPA, comes to the conclusion that "we can regulate behavior, but not motivation" in "Regulation Won't Work".
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Have any Personal Finance bloggers weighed in on this topic? I would be interested in hearing a "consumer's" point of view.

THE DEBATE CONTINUES . . . COMMENTS ON A COMMENT

While I had expected more response from the CPA community to my Friday post, I did get one comment from CPA, and new tax blogger, Jeff Beckley - aka the Tax Man.
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"You make some very good points about the 'urban tax myth' that CPAs, and only CPAs, are tax experts. I agree that you don't have to be a CPA to be qualified to prepare a tax return.
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But, we must keep in mind that many returns are prepared by unlicensed preparers and tax software. If all preparers are required to be licensed, the cost for professional tax preparation will increase and many will turn to self-preparation through software thereby increasing the risk of error. I don't see how requiring tax preparers to be licensed serves the consumer any better.
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The AICPA's position is clearly not an attempt to monopolize the tax preparation industry. 'The AICPA believes the IRS already has the tools necessary to ensure reduced-error tax returns and proper registration methods and should resist overburdening tax preparers with redundant and potentially costly regulation requirements.'
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In reality, this proposal is an attempt by the IRS to further impose taxpayer and preparer penalties that add no value to the tax prep industry. We should stick together on this issue and petition against adding further bureaucracy and expense to our industry and the taxpayers we serve."
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First of all I agree 100% with the argument that regulation of unenrolled preparers will not, as Commissioner Shulman put it, ensure, "high ethical standards of conduct for tax preparers."
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Whether licensed or not, unethical individuals will continue to be unethical. No lofty "standards of practice" or required hours of CPE in "ethics" will automatically turn a dishonest person honest. The regulation of the CPA industry, with its Code of Professional Conduct and "enforceable" Statements on Standards on Tax Practice, did not prevent ENRON and similar fraud.
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In many cases preparers of fraudulent returns do not sign the tax return and would continue to prepare fraudulent returns even if not licensed.
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And I agree that there already exists within Circular 230 provisions for penalizing unethical behavior by tax preparers.
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I do not see how regulation of unenrolled preparers, if properly done, will materially increase the cost of tax preparation, or add substantially to the IRS budget.
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While licensure may require an initial proficiency exam, any reasonable legislation must include a grandfather clause that exempts most "experienced preparers. I have suggested that those who have been preparing tax returns consistently for at least five (5) years, and who have earned at least 60 hours of CPE credits in taxation in the past two years, would be exempt from any initial exam.
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Such "grandfathering" must be part of the legislation, as it would be literally impossible for the IRS, or any outside vendor, to properly test the more than 1 Million unenrolled preparers. And for the same reason there obviously cannot be an annual test to maintain one's license. Besides, I know of no other regulated profession that requires annual testing for renewal.
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Licensure would definitely require a minimum number of annual CPE credit hours in "taxation".
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Currently the IRS charges Enrolled Agents an initial application fee of $125.00 to take the enrollment exam. EAs must renew their "license" every three (3) years by submitting a simple form (no additional testing), on which they report their CPE credits for the period, and paying a fess of $125.00.
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I would expect licensure of unenrolled preparers would have similar nominal fees. All unenrolled preparers would probably pay a similar initial registration fee, whether or not they are exempt from the test. This could generate $125 Million plus toward the cost of administering the program.
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If I were to pass this $125.00 fee along to my clients - at about 400 returns prepared annually it would be 32 cents per return.
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Even if licensure required an annual renewal fee, with a charge of say $50.00 each year (generating $50 Million plus in annual income to the IRS), I would only have to increase my base fee by 13 cents.
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In my case I believe that I already earn at least, if not more, CPE credits each year then would be required by licensure - so I personally would not be incurring any additional annual costs for continued education. I do agree that there are many unenrolled preparers who would not normally earn the newly required annual minimum number of credit hours and would need to spend, what, about $500 more per year (on the high side). Passed along to clients this would be $2.00 to $3.00 per return.
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EAs are currently required to earn 72 CPE hours in a three (3) year period (average 24 hours per year) - with a minimum of 16 hours per year. This is certainly reasonable. And frankly, if a tax preparer is not taking at least 24 hours of CPE credit annually he/she should be. Additional continued education makes a better tax preparer and therefore provides more value to his/her clients.
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I have said that CPAs who wanted to prepare tax returns would also be required to meet the minimum CPE in taxation requirements for a "licensed tax preparer". This would not be a burden. CPAs are already subject to annual minimum CPE requirements to maintain their certification - if they want to prepare tax returns they would just have to take the credits in taxation and not general accounting.
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So you can see that licensure would at most increase the cost of the average tax return by a few bucks. Hardly enough to cause masses of clients to turn to self-preparation via tax software. Tax preparation fees as they now exist are certainly, from a strict dollar point of view only, more expensive than buying a "box", although using a paid preparer also certainly provides much more value in the long run.
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I cannot see how licensure would result in, as Jeff quoted the AICPA, "overburdening tax preparers with redundant and potentially costly regulation requirements".
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And I do not understand how he feels "this proposal is an attempt by the IRS to further impose taxpayer and preparer penalties". I expect the same preparer penalties that currently exist would remain as they are. The only additional penalties would be assessed to unlicensed preparers who continue to prepare returns.
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Regulating unenrolled preparers, if done properly (unfortunately the operative word here - and Congress does not have a good track record at doing things "properly"), would certainly not eliminate fraudulent returns or close the Tax Gap - but it "couldn't hurt".
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I still believe that it would add an extra layer of protection for the average taxpayer - and it would put all licensed tax professionals, CPAs and previously unenrolled preparers alike, on an equal footing in the eyes of the general public. Hey, CPA Jeff admits the existence of the "urban tax myth" about CPAs being the only tax experts.
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And while I have been told by another respected CPA, "I don't think the AICPA is trying to protect the CPA franchise. That gives them too much credit." - I still feel that the main reason the AICPA is against regulating unenrolled preparers is that it wants its members to keep their unfair and unwarranted advantage.
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TTFN

Saturday, June 20, 2009

WHAT’S THE BUZZ? TELL ME WHAT’S A HAPPENNIN’ –

* Accountants who rap? Twit follower/followee Rick Telberg brings us “Rappin’ CPAs: The Tax Men - Tax Dat A$$” at his CPA TRENDLINES blog.

No need to worry, my accountant handles that!

* I join Pete Pappas of THE TAX LAWYER’S BLOG in questioning BO’s commitment to closing the Tax Gap (not a store selling jeans with 1040 emblems) in his post “Tax Gap Closer Obama Appoints Native American Woman with No Tax Experience to Head Up DOJ Tax Division”.

Pete suggests, and I have no reason to disagree, that the reasons for appointing Mary Smith (real name?) as head US Tax Attorney at DOJ is –

1. Ms. Smith was a partner in women-owned law firm; and
2. She is a Native American.

If the only reason for appointing Ms Smith is that she is a Native American isn’t that discrimination, however reverse? And isn’t discrimination in federal hiring illegal?

* In a later post Pete provides us with a lesson in taxation on the 7 most important “ubiquitous tax concepts” in his post “7 All Time Tax Concepts”.

* Kristine McKinley is back with a new blog – YOUR GUIDE TO SOCIAL SECURITY RETIREMENT INCOME. “It's my goal to make this blog your ultimate guide to understanding Social Security retirement benefits.” Check it out.

* Richard Close, the IRS HITMAN, dispels some “urban tax myths” concerning deductible medical expenses in his post “
IRS Tax Issues: Medical Deduction Myths to Avoid, Stay out of Trouble With the IRS

* Be sure to provide your comments to TAXGIRL Kelly Phillips Erb on her Friday question – “Fix the Tax Code Friday: What About Amnesty?

TTFN

Friday, June 19, 2009

I KNEW I READ IT SOMEWHERE

For some time now when discussing the Earned Income Tax Credit I have mentioned that I read a survey somewhere that about 1/3 oF all EITC claims were fraudulent - but I could not remember where I had read it.

The AICPA issue briefing “Federal Regulation of Tax Preparers” that I mentioned in this morning’s post included the following item –

An 1RS study of 1999 tax returns suggests that - out of the $31 billion in EITC claims by taxpayers that year - between 27 and 32 percent of those claims were erroneous.”

If that was the number back in 1999 I can imagine what it is today!

SO WHY DOES THE AICPA OPPOSE REGULATION OF UNENROLLED PREPARERS?

There has been much discussion lately, to which I have added several cents worth myself (see my post “License and Registration, Please”), on the regulation of “unenrolled” tax preparers, resulting from IRS Commissioner Doug Shulman’s recent comments.

I have come across comments and statements from state CPA organizations and the AICPA itself (i.e. AICPA issues briefing on “Federal Regulation of Tax Preparers”) that, while supporting “the implementation of high professional standards for tax practitioners”, they are basically against government registration and regulation of unenrolled practitioners. The AICPA briefing mentioned above states “we are not convinced that Congressional proposals calling for the regulation of unlicensed tax practitioners will accomplish the stated objectives advanced by the proponents of such proposals”.

One wonders why the AICPA would be against the regulation of unenrolled preparers.

There is a serious misconception among the general public, and especially, it seems, among journalists, that only CPAs are qualified tax professionals. This is seen in print during tax season and throughout the year when “CPA” is used whenever the term “tax professional” or “qualified tax professional” or “competent tax professional” would be more appropriate.

When discussing tax issues we are told to “check with your CPA first”, or “be sure to consult with your CPA”, or “see a CPA” when what is actually meant, or should be meant, is “check with your tax professional first”, or “be sure to consult with your tax professional”, or “see a tax professional”.

To be sure just because a person has the initials CPA after his/her name does not mean that he/she is a tax expert. As I have said time and again - in my 37 years in “the business” I have seen more errors on tax returns made by CPAs than by any other “class” of preparer.

If unenrolled tax preparers are required to be registered, licensed, and regulated, with required initial proficiency exams and annual minimum CPE credit hours, the result would be a “licensed tax preparer” or some similar federal designation. And, presumably, only “licensed tax preparers” would be allowed to professionally prepare tax returns.

Now I am not talking about practice before the IRS. “Licensed tax preparers” would be permitted to prepare tax returns only. Practice before the IRS, I expect, would continue to be limited to EAs, CPAs and attorneys. And I also expect that EAs, CPAs and attorneys would be automatically “grandfathered” in as “licensed tax preparers”.

However, while CPAs would be exempt from any initial proficiency test, those who want to be able to prepare tax returns should be subject to the same annual CPE credit requirements as the newly enrolled practitioners. If “licensed tax preparers” are required to take 30 CPE credits in “federal income taxes” each year to maintain their status, then CPAs who want to prepare tax returns should be required to take the same credits in federal income tax topics, and not just general accounting.

Enrolled Agents already have strict CPE requirements in federal taxation. And, to be honest, I doubt very many individuals have their 1040 prepared by a lawyer – who could afford it? Tax lawyers are generally used by individual taxpayers when it comes to the area of “problem resolution” – dealing with problems resulting from faulty, or considered faulty, 1040s or collection issues.

It is my firm belief that one of the main reasons why CPA organizations are against the creation of a “licensed tax preparer” designation, via the regulation of unenrolled tax practitioners, is that this will once and for all do away with the misconception that only CPAs are qualified tax preparers. Now journalists will be saying “check with your licensed tax preparer” and “be sure to consult with your licensed tax preparer” and “see a licensed tax preparer”.
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CPAs do not want the competition - they want to continue to have the unjustified "upper hand" with the public in terms of erroneously perceived tax expertise that they now enjoy.

I have read credible opinions on both sides of the issue by individual CPAs, attorneys, CPA-Attorneys, Enrolled Agents and unenrolled tax professionals, and do not doubt one bit that the individuals expressing these opinions are sincere and not just self-serving. There are legitimate arguments both pro and con.

But one thing I do know is that if all tax preparers were regulated via a “licensed tax preparer” designation it would rightfully put all qualified and competent tax professionals on an equal footing in the eyes of the public, and do away with the erroneous “urban tax myth” that CPAs, and only CPAs, are tax experts.

TTFN

Thursday, June 18, 2009

RECOMMENDATIONS FROM TIGTA

According to its website, “The Treasury Inspector General for Tax Administration (TIGTA) was established under the IRS Restructuring and Reform Act of 1998 to provide independent oversight of IRS activities. TIGTA promotes the economy, efficiency, and effectiveness in the administration of the internal revenue laws. It is also committed to the prevention and detection of fraud, waste, and abuse within the IRS and related entities.”

In some respects TIGTA is like the “Internal Affairs” department of the IRS. It also issues reports and makes recommendations to both the IRS and Congress, and, like the Taxpayer Advocate Office, submits a semi-annual “Report to Congress”.

In one recent report TIGTA made the following suggestion to the IRS -

The Internal Revenue Service (IRS) should increase its efforts to educate elderly taxpayers about potential exemptions from withholding tax on certain retirement payments in order to reduce unnecessary tax return filings, according to a new report publicly released today by the Treasury Inspector General for Tax Administration (TIGTA).

While the IRS' public website, www.irs.gov, instructs taxpayers on how to determine whether to file a Federal tax return and if income tax withholding is necessary, printed publications, such as the instructions for filing IRS Form 1040, do not expressly state whether taxpayers should continue to have income tax withheld on Social Security, pension and annuity payments.

In August 2007, TIGTA issued a report examining the characteristics of unnecessarily filed individual income tax returns (
Reference Number 2007-40-130, August 17, 2007). That report found that more than 8 million tax returns were unnecessarily filed in 2003, 2004 and 2005. Eighty-five percent of those returns were filed to obtain a refund of taxes withheld.”

Basically the report says that 8 Million + unnecessary tax returns with no tax liability are filed by senior citizens each year, most of which are simply to get a refund of federal income tax withheld from pensions.

This is similar to the fact that there are also many unnecessary tax returns filed by dependent children simply to get a full refund of federal income tax withheld. I discussed this issue in some detail back in 2007 in my post “Dependents and Income Tax Withholding”.

I also agree that many seniors should also refrain from having federal income taxes withheld from pension income if they consistently have “0” tax liabilities on the Form 1040 (or 1040A) each year. However I also realize that there are seniors who would rather be “safe than sorry” and have tax withheld as an arse-covering measure “just in case” so they will not have to write a check to their Uncle Sam at tax time.

I do advise clients who do not need to have tax withheld from pensions and annuities to stop doing so, but do not make an issue of it if they want to cover the arse. The problem I have is not with senior clients who have tax withheld from such income unnecessarily – but with those with tax liabilities who do not have any, or enough, federal or state tax withheld.

In another report TIGTA told the IRS that changes should be made in the layout and typeface of 1040 individual tax forms, including more use of boldface, colors and explanations, to help reduce taxpayer errors.

According to the
report, each year the IRS sends out more than 7 Million notices to taxpayers informing them of math errors on their tax returns. TIGTA thinks that more than 2.3 Million of those errors could have resulted from unclear or inadequate forms and instructions. An analysis of taxpayer errors on 2005 tax returns identified three areas where modifying the 1040 and its instructions could reduce errors - computing the deduction for personal tax exemptions, the omission of dependent Social Security numbers or Individual Taxpayer Identification Numbers, and children claimed for the Child Tax Credit who exceeded the age limit.

The report says that taxpayers made more than 210,000 errors computing their exemption amounts. Another 170,000 taxpayers failed to include their dependent’s SSN or ITIN on the 1040, and approximately 137,000 taxpayers were denied the Child Tax Credit in 2006 because the child’s age exceeded the age requirement.

TIGTA recommends that the IRS use improved labeling and include the use of bold type to draw attention to instructions. Other suggested changes to the Form 1040 include adding language explaining the purpose and description of the exemption line, a statement that a SSN or ITIN is required for each dependent claimed, and the inclusion of the qualifying age requirement necessary to claim the Child Tax Credit. TIGTA also recommended that the IRS seek Congressional approval to use additional colors on tax returns and instructions to highlight important warnings and information.

I don’t know – a multi-color 1040? I am used to the light blue color of the form, just as I am comfortable with the red color of the NJ-1040 (appropriate – considering NJ’s financial situation). While I would agree that in some cases IRS instructions and “prompts” could be improved or more effectively highlighted I don’t think I would want a “more colorful” 1040.

TTFN

Wednesday, June 17, 2009

ASK THE TAX PRO - EXCESS TAX CREDITS

Here is a question I got via email from a long-time friend and client.

Q. This may be a stupid question, but I just want to be sure. Between the $1,700 tax credit for the hybrid I will receive, as long as it is delivered by 9/30/08, and the sales tax credit of about $2,900 I will exceed my total tax liability for the year. In addition, because of my medical expenses, and I am having dental work done now also, property taxes, new home equity interest, and the usual I will have lots of deductions. If I exceed my tax liability will I still receive the balance of the tax credits as a refund? If not, I could always cash in some more bonds.

A. There is no such thing as a stupid tax question – only stupid taxpayers (who don’t consult a competent tax professional)! The question actually brings up an excellent tax-planning point.

First of all, the “sales tax credit of about $2,900” to which he refers is not actually a credit (a credit is a dollar-for-dollar reduction of tax liability). He is talking about the “above the line” tax deduction for sales or excise taxes paid on the purchase of a new automobile. His Adjusted Gross Income (AGI), and not his tax liability, will be reduced by $2,900. He also mentions excessive medical expenses, so the $2,900 “above the line” deduction will increase his allowable medical deductions by $218!

He is basically asking if the $1,700 energy tax credit for purchasing a hybrid car reduces his tax liability to below “0” will he be able to receive a refund of the unused credit. The answer is no.

Most tax credits are not “refundable”. Only the Earned Income Credit, BO’s new Making Work Pay Credit, a portion of the new American Opportunity Credit for tuition and fees, and possibly the Child Tax Credit are “refundable”. By “refundable” I mean they are treated as additional withholding and can be applied against “other” taxes, such as the self-employment tax and the penalty for early withdrawal from a pension account, and ultimately added to the taxpayer’s refund.

In the case of my friend – he is single with no children, recently retired (late 2008) - though not receiving Social Security or Railroad Retirement - and will be reporting some nominal net earnings from self-employment for 2009. The only “refundable” credit to which he will be entitled is the Making Work Pay credit, which is based on 6.2% of his self-employment income. The MWP credit can be applied against his self-employment tax for the year.

However with reduced income due to retirement and excessive deductions due to special situations it is very possible that the $1,700 hybrid credit will exceed his federal income tax liability. In such a case the excess hybrid credit would be lost.

In this particular case the taxpayer has a large “inventory” of US Series E savings bonds, both purchased and inherited, that are still earning interest. He plans to cash in a certain amount each year, determined by tax planning, to supplement his income until Social Security kicks in. He has already cashed in the bonds scheduled for 2009.

What we will do is prepare a “preliminary” 2009 tax return in late November or early December as part of regular year-end tax planning. If at that time we determine, based on year-to-date information, that his tax liability before the hybrid credit will be less than $1,700 he will cash in enough additional savings bonds to generate the amount of taxable interest income needed to use up the excess credit. By doing this the additional savings bond interest will be totally tax free (US savings bond interest is already tax free on the NJ-1040)!

FYI, my friend and client uses the Savings Bond Wizard software available online to properly “inventory” his bonds so that he knows how much interest each bond will accrue for the year.

TTFN