Archive for the ‘Tax Preparation’ Category

Do I Really Have to Wait for that $10 K-1 to Arrive?

Monday, February 12th, 2024

Earlier this week, a client came in for his annual visit (call him John).  John invested in a new investment partnership this year, and he was told by the partnership that the only item on his K-1 will be exactly $10 of interest income.  But John does not have the K-1; indeed, he won’t have it until sometime in July.  Does John have to wait until July to file his tax return?

Yes, he does.

The statement can be used to determine how much tax John owes for 2023; however, it cannot be used for filing.  You must have all your tax documents including all K-1s before you file.  It is far, far better to extend than amend.  Yes, that K-1 (for John) results in $3 or so of tax and is close to irrelevant for his tax situation.  But who knows what other items are on it?

When the K-1 is actually issued there could be:

  • A change from the $10 in interest income to something else;
  • Perhaps some of the interest income isn’t taxable on either the federal or state level; and
  • Perhaps there are other items that will be on the K-1 that have to be entered.

The K-1 is determinative in preparing (and filing) a tax return; the statement is not.  I know this personally: I’m an investor in a partnership whose K-1 shows up every year in early August.  In late March I’ll get a statement (similar to the one John has) noting their projected items of income and deductions so I can file an extension (and make an extension payment).  In the case of the partnership I invested in, they’ve invested in other entities and have to wait for the results of those underlying investments to formally arrive before issuing the K-1s.

When you invest in a partnership or S-Corporation, you need to be aware that to file by the April deadline you will have to have that K-1.  Partnerships and S-Corporations can (and these days often) obtain extensions until September 15th.  If you invest in an entity that takes the extra six months, you will be extending your tax return. 

John knew coming in that he would be extending.  He spoke to me last year about the new investment, and I told him an extension was likely.  If you make such an investment, be aware that an extension is likely in your future.

 

Bozo Tax Tip #2: Cash Isn’t Taxable

Thursday, April 13th, 2023

I haven’t run this Bozo Tax Tip in a few years, but it reared its head again just a couple of weeks ago (as you read this). A new client came into my office for the preparation of his tax return. Everything went smoothly, and an hour or so later his returns were complete and electronically filed, he had his copies of the returns, and the Bozo festivities (unknowingly to me) were about to begin.

He asked me if I’d take cash. “Sure,” I replied.

The client then handed me an amount exactly 10% less than the amount of the invoice. “This way you don’t have to report it—after all, it’s cash so there won’t be any record.”

“Cash income is just as taxable as any other source,” I replied. “I’m ethical, and I report all my income.”

“Oh, come on,” he replied. “When I was self-employed everyone did that.” Thankfully, my client is currently not self-employed.

“Well, that’s a good way to get in trouble. That’s called tax evasion. I don’t need to get myself involved in that, and neither does anyone else today.” I pointed out to my client the number of business owners who have done what he thought was ‘normal’ who are now residing in ClubFed. It’s amazing how many owners of Gentlemen’s Clubs (which are definitely cash businesses) get in trouble, thinking that they only have to report some of the income.

My client, after some prodding, came up with the other ten percent of the fees, and he ended up (hopefully) a little wiser. You needn’t worry about this: Just report all of your income on your tax return. But if you want to live on the Bozo side of life, skip reporting the cash…until one day you find out that really was a Bozo move.

Bozo Tax Tip #4: Procrastinate!

Tuesday, April 11th, 2023

Today is April 11th. The tax deadline is just seven days away.

What happens if you wake up and it’s April 18, 2023, and you can’t file your tax? File an extension. Download Form 4868, make an estimate of what you owe, pay that, and mail the voucher and check to the address noted for your state. Use certified mail, return receipt, of course. And don’t forget your state income tax. Some states have automatic extensions (California does), some don’t, while others have deadlines that don’t match the federal tax deadline (Hawaii state taxes are due on April 20th, for example). Automatic extensions are of time to file, not pay, so download the extension form and mail off a payment to your state, too. If you mail your extension, make sure you mail it certified mail, return receipt requested. (You can do that from most Automated Postal Centers, too.)

By the way, I strongly suggest you electronically file the extension. The IRS will happily take your extension electronically; many (but not all) states will, too.

But what do you do if you wait until May 18th? Well, get your paperwork together so you can file as quickly as possible and avoid even more penalties. Penalties escalate, so unless you want 25% penalties, get everything ready and see your tax professional next week. He’ll have time for you, and you can leisurely complete your return and only pay one week of interest, one month of the Failure to Pay penalty (0.5% of the tax due), and one month of the Failure to File Penalty (5% of the tax due).

There is a silver lining in all of this. If you are owed a refund and haven’t filed, you will likely receive interest from the IRS. Yes, interest works both ways: The IRS must pay interest on late-filed returns owed refunds. Just one note about that: The interest is taxable.

NOTE: If you reside in a federally declared disaster zone (for example, most of California), you have an automatic extension of time to file and pay; most Californians have until October 16th.

Bozo Tax Tip #6: The $0.63 Solution

Friday, April 7th, 2023

With Tax Day fast approaching it’s time to examine yet another Bozo method of courting disaster. And it doesn’t, on the surface, seem to be a Bozo method. After all, this organization has the motto, Neither rain nor snow nor gloom of night can stay these messengers about their duty.

Well, that’s not really the Postal Service’s motto. It’s just the inscription on the General Post Office in New York (at 8th Avenue and 33rd Street).

So assume you have a lengthy, difficult return. You’ve paid a professional good money to get it done. You go to the Post Office, put proper postage on it, dump it in the slot (on or before April 18th), and you’ve just committed a Bozo act.

If you use the Postal Service to mail your tax returns, spend the extra money for certified mail. For $4.15 you can purchase certified mail. Yes, you will have to stand in a line (or you can use the automated machines in many post offices), but you now have a receipt that verifies that you have mailed your return.

About fourteen years ago one of my clients saved $2.42 (I think that was the cost of a certified mail piece then) and sent his return in with a $0.37 stamp. It never made it. He ended up paying nearly $1,000 in penalties and interest…but he did save $2.42.

Don’t be a Bozo. E-File (and you don’t have to worry at all about the Post Office), or spend the $4.15! And you can go all out and spend $3.35 and get a return receipt, too (though you can now track certified mail online). For another $2.10 you can get the postal service to e-mail the confirmation that the IRS got the return (for the OCD in the crowd). There’s a reason every client letter notes, “using certified mail, return receipt requested.”

Bozo Tax Tip #10: Email Your Social Security Number or EIN!

Monday, April 3rd, 2023

It’s time for our annual rundown of Bozo Tax Tips, strategies that you really, really, really shouldn’t try. But somewhere, somehow, someone will try these. Don’t say I didn’t warn you!

This is a repeat for the tenth year in a row, but it’s one that bears repeating. Unfortunately, the problem of identity theft has burgeoned, and while the IRS’s response has improved, that’s just an improvement from awful to mediocre.

I have some clients who are incredibly smart. They make me look stupid (and I’m not). Yet a few of these otherwise intelligent individuals persist in Bozo behavior: They consistently send me their tax documents by email.

Seriously, use common sense! Would you post your social security number on a billboard? That’s what you’re doing when you email your social security number.

We use a web portal for secure loading and unloading of documents and secure communications to our clients. As I tell my clients, email is fast but it’s not secure. It’s fine to email your tax professional things that are not confidential. That said, social security numbers and most income information is quite confidential. Don’t send those through email unless you want to be an identity theft victim or want others to know how much money you make!

If I send an email to my brother, it might go in a straight line to him. It also might go via Anaheim, Azusa, and Cucamonga. At any one of these stops it could be intercepted and looked at by someone else. Would you post your social security number on a billboard in your community? If you wouldn’t, and I assume none of you would, why would you ever email anything with your social security number?

A friend told me, “Well, I’m not emailing my social, I’m just attaching my W-2 to the email.” An attachment is just as likely to be read as an email. Just say no to emailing your social security number.

The same issue holds for a business’s Employer Identification Number (EIN).  These should be treated like your individual social security number: send them using only a secure method.

If you’re not Internet savvy, hand the documents to your tax professional or use the postal service, FedEx, or UPS to deliver the documents, or fax the documents. (If you fax, make sure your tax professional has a secure fax machine.) If you like using the Internet to submit your tax documents, make sure your tax professional offers you a secure means to do so. It might be called a web portal, a file transfer service, or perhaps something else. The name isn’t as important as the concept.

Unfortunately, the IRS’s ability to handle identity theft is, according to the National Taxpayer Advocate, poor. So don’t add to the problem—communicate in a secure fashion to your tax professional.

No Vacancy

Monday, January 30th, 2023

If you are searching for a tax professional and have yet to find one, you really, really need to get that into high gear.  As of today, we’re telling anyone inquiring that you will be put on a waiting list.  Based on talks I’ve had with other tax professionals, few have space for many (if any) additional clients.

There are two main reasons this has occurred.  First, the average age of tax professionals is in the 50s.  Many tax professionals retired when the pandemic hit.  Tax and accounting are not glamorous fields, and not enough individuals are getting into this profession.

Additionally, each year it takes longer and longer to prepare a tax return.  This isn’t just the Tax Code getting more complex; it’s also the regulations that tax professionals must comply with.  Let me give two examples.  Every time we efile a return to the IRS we are required to note the Submission Identification Number (SID) generated by the IRS on either the signature document, or we can note it separately with the signature document.  We print this as a pdf from each return and save it in our paperless system with each return.  This takes about 90 seconds–not a big deal.  But if you multiply this by 1000 returns, that’s 1500 minutes or 25 hours of work–more than three days I’m paying someone for “make-work.”  The SIDs are always maintained in the software we use, but the IRS regulation is very specific on what tax professionals must do so there is no choice.

Another regulation we deal with are the required interviews for the Earned Income Credit (EIC), Child Tax Credit/Additional Child Tax Credit, American Opportunity Tax Credit, and Head of Household status.  We don’t have many clients who take the EIC, but we have plenty of clients who have children and qualify for these other credits.  We’re required to do a brief interview where we talk to the client and note the client’s responses.  Most of these interviews take less than five minutes–for the CTC, the average is around three minutes.  With about 600 of these interviews, that equates to 1800 minutes (30 hours).  Who pays for this?  Anyone who hires a tax professional does.

Those were just two of the many regulations we have to deal with.  Then we get into the Tax Code, and dealing with Congress’s “simplifications.”  Maybe some session of Congress will see the Tax Code simplified, but I have my doubts.

What does this all mean?  First, the number of returns a tax professional can prepare decreases each year.  It should be the other way; after all, if I’m experienced I can work faster, right?  But it’s not: complexity and regulations just eat into the time.  Second, I value my employees and I don’t want them to burn out.  We (a) moved our deadlines earlier for the 2023 Tax Season and (b) are making sure that our staff gets one day off per week even in the height of Tax Season.  Third, while I want to hire an additional tax professional, I have been unable to find quality candidates.  Meanwhile, demand for tax professionals in our specialty areas is increasing.

What happens when supply decreases and demand increases?  Price goes up–significantly.  That’s the case for us and (as best as I can tell) the entire tax professional community.  If you need a tax professional, be aware of the issues we face and if you have a good one, treat him or her well.

2022 Tax Season: The Tax Season From Hell (Part 4)

Friday, November 4th, 2022

To recap, in Part 1 of this series I dealt with IRS failures in the 2022 Tax Season; in Part 2, I covered what the IRS should do to fix the mess.  In Part 3, I wrote about what our firm got wrong.  It’s now time to look at the opportunities (or change-points) to resolve our issues.

1. We’re upgrading our hardware and software.  Our computer server is being replaced in a little over one week (which should allow us to access files faster).  We’re switching to a unified back-end software before year-end; this should eliminate (I hope) or greatly reduce our internal systemic issues and increase our work-flow efficiency and speed.

2. We’re moving to a new office in December.  We’re moving across the courtyard to a larger office that’s far better suited for our needs.  We’ll have room for expansion.  While I’ll miss having the only 17-sided office in the country (yes, it’s a heptadecagon!), the new office will work better for our staff.

3. We’re moving up our submission deadlines.  We need to be able to better deal with the workload, and we simply couldn’t get everything done correctly and provide the proper level of service with our old deadlines.  This does mean many of our clients may need to file extensions; however, while inflation is adding costs for all of us, the 24-hour day remains just 24 hours long.  (The details will be in the Engagement Letters we send to our clients in December.)

4. We’re changing our work hours for the health and efficiency of our staff.  We’re decreasing the hours we’re working during Tax Season.  Everyone needs time to recharge, and working seven days a week isn’t healthy.  We will be starting our increased Tax Season hours earlier, but our staff deserves time off every week–and they will be getting it this year.

5. We’re raising our rates for the 2023 Tax Season.  There are two major components of this.  First, as I’ve detailed in the past, inflation is impacting every input.  From the paper we use to the software we rely on, everything has gone up between 10% to 488% from last year.  Like every business, we must pass that on to our clients.  Second, we believe we’ve been charging too little and we need to adjust our rates (while providing a far better level of service than we did in the 2022 Tax Season).  (The details will be sent when we distribute our Engagement Letters.)

6. We’re not planning on net growth of clients for the 2023 Tax Season.  When Price goes up, Demand goes down; that’s one of the outputs of the Law of Supply and Demand.  We do expect to lose some clients because of our price increase, and we accept that.  Additionally, we’re going to cap the number of clients based on the number of returns we can realistically complete with the level of service we want to provide.  It’s quite likely that we will not be accepting new clients sometime early in 2023, so if you’re interested in using us, now is the time to let us know.

7. We’re attempting to hire another tax professional (or trainee).  Even though the economy is in a recession, the job market remains extremely tough.  We’d like to hire another tax professional, and we’re looking to do so.  Our trainee from 2022 will be on board as a tax professional for the 2023 Tax Season, so that should help.  Still, demand remains strong (and likely will continue to be strong as long as the Tax Code remains as convoluted as it is today).

Will these fix our issues from the 2022 Tax Season?  At minimum, they should greatly reduce the issues we faced.  However, no one can predict the future.  I can promise that we’re not going to have a repeat of the issues we had during 2022, and we are building more resiliency into our systems.

2022 Tax Season: The Tax Season From Hell (Part 3)

Thursday, October 27th, 2022

This is, perhaps, the most painful post I’ve ever written for this blog.  Why?  I’m going to go over everything our firm got wrong with this past Tax Season.  As the saying goes (Murphy’s Law), what can go wrong will go wrong and, boy, was that the case this year!

When the 2021 Tax Season ended (2020 tax returns prepared in 2021), we added an additional tax professional.  We believed that would give us additional capacity for the expected growth for the 2022 Tax Season.  Otherwise, we expected 2022 to be a repeat of 2021.  However, that simply wasn’t the case.

1. We didn’t budget for returns taking 10% more time than last year (on average).  For whatever reason, we found that the amount of time we had to spend working an average return increased by that 10%.  Let’s say you spend 60 minutes (one hour) on a return; that would mean an extra six minutes.  That’s not much…but multiply that by 1,000 returns and you have 6,000 minutes or an additional 100 hours.  We didn’t budget for that (and didn’t see this coming).  This won’t be the first time I mention that while inflation is surely impacting our pocketbooks, there’s been no inflation in the length of a day.

2. Mr. Murphy struck on the illness front. When I wrote Part 1 in April, only one of our employees had gotten Covid.  By October, every employee had gotten Covid.  (Interestingly, no one caught it in the office.  Our office was built in the 1980’s and doesn’t have the best ventilation; one would think Covid would spread easily from employee to employee but that didn’t happen.)  That took each employee out of the office for at least one week (in my case, two weeks).  Additionally, last year’s flu shot was abysmal in preventing the flu (a reported 16% efficacy).  All but one of us got the flu, too (amazingly, no one caught it from anyone at the office–maybe the office’s ventilation is better than I thought).

3. Personal and legal obligations kept me away from the business for several weeks.  I had a family issue arise in January that kept me away from the office for almost the entire month.  While Scott (my business partner) and everyone else pitched in during my absence, it put me behind.  That’s a bad way to start a tax season.  I was then unlucky enough to have to deal with a legal issue which kept me out of the office for a couple more weeks.

4. We dealt with two day-long power failures and two air conditioning failures.  In Las Vegas, you simply cannot work in an office in the summer if there’s no air conditioning.  Twice, the power was out for several hours and we closed.  Twice, the air conditioning failed. (We do have a service contract that specifies same-day repairs, and the company we used was very efficient in fixing the issues).  Still, that’s another week lost from preparing returns.

5. The first four items highlight that we didn’t have enough resiliency built into our planning.  Consider an office of 100 tax professionals where one individual is ill.  The other 99 can pick up the slack fairly easily.  Now consider an office with five individuals with one out for an extended period; it’s far more difficult for the other four to effectively handle the increased workload.

6. We upgraded our internal paperless system and it didn’t work. We’ve used the same paperless system for more than a decade, and at the end of 2020 we “upgraded” to the new, improved version.  Unfortunately, new and improved wasn’t the reality.  It was slower and simply didn’t work.  We downgraded back to the old, unimproved version (which we’re still on).  The new version looked better but we’re far more concerned with quick retrieval of .pdf files, not the fact that the new system uses the cloud.

7. We discovered our systems were not robust enough to handle our growth.  We discovered multiple failure points during the 2022 Tax Season relating to our internal systems and how returns flowed in our office.  Most of these issues related to computer systems we use and were caused by using three different systems (excluding our tax software) for running the back-end of our office.

In many ways it was for us a perfect storm of issues.  It resulted in poor communication to our clients (which is unacceptable to us) and poor performance by us (mainly in timely preparing returns).

So what are we going to do about this?  That’s in Part 4 of this series coming next week.  For now, I’ll quote Lewis Mumford who stated, “The Chinese symbol for crisis is composed of two elements: one signifies danger and the other opportunity.” [1]  We’re looking at this as an opportunity for the 2023 Tax Season.


[1] I don’t speak or read Chinese, but I heard from a friend of mine that the Chinese symbol for crisis is actually not composed of an element meaning “opportunity;” instead, the second element means “change point.”  Whether it’s a change point or an opportunity isn’t relevant: for us, it’s going to be both.

It’s Time to Panic!

Tuesday, September 20th, 2022

Today is September 20th. Three weeks from Monday is October 17, 2022. That’s the deadline for individual taxpayers on extension to file their tax returns (unless you’re in a federal disaster area). If you have yet to send your paperwork to your tax professional it’s past the time to do so. Yes, it’s time to panic!

If your return is simple and straightforward, stop procrastinating and get it done and filed. If your return has any sort of complexities, you must start working on it now. Your tax professional needs time to get it done correctly. You need to turn in that paperwork post haste. If you’ve procrastinated, stop, sit down, and get it done–NOW.

Every tax professional I’ve spoken to this year is buried.  Indeed, it may already be too late for your return to be timely filed with many tax professionals. For example, our official deadline was September 15th. We’re not horribly behind, but I can state that if one of our clients procrastinates beyond this weekend there will be issues.  And I can guarantee if you drop off your paperwork with us on October 10th your return is almost certainly not going to be timely filed.

If you file late, it’s as if you never filed your extension. So sit down and get everything done now! Of course, if you like paying a 25% penalty, continue procrastinating.  After all, tax professionals are far less busy after the October deadline.

Do IRS Employees Know the Postmark Rule?

Friday, July 22nd, 2022

So what’s the postmark rule?  The IRS notes this on their website:

Your return is considered filed on time if the envelope is properly addressed, has enough postage, is postmarked, and is deposited in the mail by the due date. If you file electronically, the date and time in your time zone when your return is transmitted controls whether your return is filed timely.

Of course, the IRS website doesn’t govern; the Tax Code and regulations promulgated under the Code do.  And here the IRS website exactly matches the law under IRC Section 7502 and 26 CFR § 301.7502-1.  So why aren’t IRS employees aware of this rule?  Let me first explain why I’m asking.

We normally file business return extensions electronically.  However, every year there are a few that must be paper-filed (mailed to the IRS).  On March 11th we mailed an extension for an S-Corporation (call it Acme).  The IRS had yet to process Acme’s S-Corporation election paperwork; when I attempted to e-file the extension, it failed.  So we mailed it certified mail, return receipt to the IRS on March 11th; it was received at the IRS in Ogden, Utah on March 17th.  This past week, Acme received a letter from the IRS stating we cannot accept your extension because it was filed after the deadline.

The owner of Acme was, of course, upset with me until he saw that I did file the extension timely; eventually the extension will end up being valid.  But (a) I had to waste time on a conversation with the owner of Acme, (b) the IRS wasted time and money in sending out the notice, and (c) will waste additional time removing the penalty and noting the extension was timely filed.

And I’m not alone in having clients impacted by this.  On Twitter, another tax professional noted he’s been receiving a “steady stream” of notices denying extensions for business returns.  Why has this happened?

I can only think of two reasons: either the IRS is separating envelopes from extensions (so that the IRS employee processing the mailed extension has no idea when it was mailed and only knows the receipt date) or the IRS employee processing the extensions aren’t aware of the rule.  Neither of these reasons is acceptable, but it appears that’s the reality today.

What does this mean for taxpayers?  First, you must use certified mail, return receipt requested in sending anything to the IRS (or any other tax agency) by mail.  Yes, my envelope mailed on March 11th from Las Vegas should have made it to Ogden by the 15th (it’s about a 6 1/2 hour drive from my office) but it didn’t.  Because I have proof of the postmark there won’t be any issues (in the long run).  Had I not mailed it certified mail, there would be no proof.  Given current IRS practices, this is essential.  Second, where possible e-file.  With electronic filing, there’s absolute proof of the date and time of filing.