Taxable Talk

I have more information on the coding issue: The problem lies with my software company, not the IRS. It seems that in a limited number of cases, my software (ProSeries, made by Intuit) returns a code “5″ indicating that an electronic payment has been rejected when the actual transmission from the IRS is a code “4″ indicating that the payment was accepted.

What is making me upset is that when I called Intuit this morning that they were aware of the problem and were working on it. They apparently do not consider this serious enough to proactively tell their user base about it. I asked for a supervisor to call me back; I have yet to get that call today.

Consider a hypothetical client, John Smith. Mr. Smith owes the IRS at the extension deadline $20,000. He chooses to have the funds electronically debited. His return is filed electronically and accepted, but the electronic funds payment is supposedly rejected. You tell Mr. Smith he needs to mail a check to the IRS for the $20,000 which he dutifully does. However, the payment was really accepted.

The client discovers two days later that the IRS has debited his account. Meanwhile, does he put a stop-payment on the check he sent the IRS (incurring fees from the IRS and his bank)? Or perhaps the check is cashed by the Treasury and now Mr. Smith is out an additional $20,000 for a few weeks. (The IRS will send a refund for the double-payment, but Mr. Smith loses the use of that money for a while.) Or perhaps the check bounces as Mr. Smith only had $30,000 in his bank account. Is Intuit going to cover Mr. Smith’s fees?

As best as I can determine, I had four clients impacted by this. I assume there are hundreds if not thousands impacted nationally. It will be very interesting to see how Intuit responds to this major issue.

I enjoy college football. Today, my school won a thrilling game in overtime.

Way back when, there were only a few college bowl games. And their names were simple: Rose, Sugar, Cotton, and Orange. The second tier games also had simple names: Blue-Bonnet, Fiesta, Peach, and Gator. Now, we’re treated to the [name your favorite sponsor]‘s bowl. Well, TaxSlayer.com will now be the official sponsor of the Gator Bowl for the next three years.

TaxSlayer.com is what you’d expect from the name: income tax software. A partnership between a tax firm and a college bowl makes some sense; after all, income tax season follows the new year.

So on January 2nd, you and I will enjoy the TaxSlayer.com Gator Bowl in Jacksonville.

Hat Tip: Don’t Mess With Taxes

This morning, Joe Kristan posted about an Iowa couple who had a unique method of preparing tax returns. I made the mistake of reading the actual court decision while drinking my morning coffee:

According to [the defendants], if you believe that looking successful helps make you successful, your clothes, hair care, and manicures are deductible. If your dog barks while you are away from your home based business, it’s deductible. If your child’s nanny ever answered the business phone, the nanny is deductible. If you visit a business associate while on vacation, it is deductible. If you pay rent to yourself, or even if you don’t, it’s deductible. If you have a six year old child, payments to the child are deductible employee expenses. If you have used your living room television in a business meeting, it’s deductible. And your hobbies, like scuba diving, pet cats and flying, easily deductible.

The trouble was that I was laughing so much that the coffee hit the carpet. As you hopefully know, none of the items noted by the Court are deductible; the defendants in this case absolutely deserve their permanent injunction.

On a more serious note, Joe noted,

The case is noteworthy in another respect: it shows how useless competency exams and CPE requirements are in stopping rogue preparers. One of the preparers — the one who signed all of the disputed returns — was an Enrolled Agent. That meant he had to pass a competency test that is certainly more difficult than any that will be imposed by the new IRS preparer regulation regime. He also had to take continuing education to maintain that status. [emphasis in original]

I disagree somewhat with Joe regarding competency exams, but agree with him regarding CPE.

Competency exams will weed out the lowest of the low hanging fruit. There are undoubtedly some preparers who are so incompetent that they have no chance of passing any exam. In that respect, the RTRP exams will have an impact.

However, CPE is what you make out of it. For most tax professionals, CPE gives us a chance to learn new material in tax. True tax professionals attend courses and want to learn.

That said, it’s relatively easy for an incompetent preparer to obtain CPE. Just go to courses, doodle on the materials presented, and go home still believing that petting your dog is deductible. As long as you attend the full course (typically, your badge is scanned upon entering and leaving) you will get CPE. Attend enough CPE and your license can be renewed.

Joe would prefer that the money being spent on building a new bureaucracy be used to spot rogue preparers. Originally, I was indifferent about the new PTIN and registration requirements. (For the record, the National Association of Enrolled Agents, of which I am a member, strongly supports both.) I am now moving more towards Joe’s opinion (that this is more or less a power grab by the IRS with no real benefits to taxpayers or tax professionals).

Ah, Spring is in the air. And with that come the inevitable wedding invitations. I was supposed to be in a wedding this weekend, but the three extra days of tax season put an end to that.

With weddings comes changes in tax status. Your marital status on December 31st determines your marital status for the year. If you are married, you file as Married Filing Jointly or Married Filing Separately. (In some rare cases, if you’re married you can file as Head of Household.) But you can’t file as single. Likewise, if you’re single you can’t file as married.

Perhaps it’s something in the water, but this year Aaron and I have seen multiple cases of individuals who have ignored that marriage license and filed as single if married. There’s a good reason for that, of course: They save on taxes. A big issue is rental real estate: If you’re actively involved in rental real estate you get to take losses of up to $25,000. But there’s an income cap (the deduction begins to phase out at an income of $100,000 and completely phases out at $150,000). This particular deduction is neither indexed for inflation nor does it vary if you are single or married.

There’s a problem taking deductions you’re not entitled to: tax evasion. It’s a Bozo act to claim things you’re not entitled to.

Marriage has its ups and downs. Claiming you’re single on your tax return will in the long-run cause you nothing but downs.

I’m happy doing what I do. As my brother says, someone’s got to enjoy preparing tax returns. One thing that I’m not, though, is a receptionist.

Neither is one Bakersfield woman. However, Bakersfield tax preparer Bertha Vaughn listed her as a day care owner receptionist on her 2006 return. As she told Bakersfield Now, the unlucky Bakersfield woman had never been either a day care owner or a receptionist.

It seems that Ms. Vaughn allegedly wanted her clients to have refunds. The trouble is, you can’t make things up on tax returns. Telling the IRS that a client owns a business and is eligible for various deductions when they aren’t is a felony.

It took some time, but apparently the IRS caught on to what was happening. Ms. Vaughn was indicted on 29 counts of aiding and assisting in preparation of false tax returns to the IRS. Ms. Vaughn is looking at a stay in ClubFed and possible restitution if found guilty.

The alleged offenses occurred in California, a state that already regulates tax professionals. Unfortunately, if you want to be a bad preparer there’s not much to stop you from doing so…until you get caught.

If you go to a tax professional, make sure you review your return. If you see something on the return you don’t understand, ask your professional. He or she should be happy to explain why you qualify for a tax deduction or credit. And if you see from your tax return that you’ve suddenly become a receptionist in a day care facility (but you’re not), it’s time to run, not walk, to a different preparer.

The IRS has come out with its annual list of tips in choosing a tax professional:

1. Check the person’s qualifications Ask if the preparer is affiliated with a professional organization that provides its members with continuing education and resources and holds them to a code of ethics.

2. Check on the preparer’s history Check to see if the preparer has any questionable history with the Better Business Bureau, the state’s board of accountancy for CPAs or the state’s bar association for attorneys.

3. Find out about their service fees Avoid preparers that base their fee on a percentage of the amount of your refund or those who claim they can obtain larger refunds than other preparers.

4. Make sure the tax preparer is accessible Make sure you will be able to contact the tax preparer after the return has been filed, even after April 15, in case questions arise.

5. Provide all records and receipts needed to prepare your return Most reputable preparers will request to see your records and receipts and will ask you multiple questions to determine your total income and your qualifications for expenses, deductions and other items.

6. Never sign a blank return Avoid tax preparers that ask you to sign a blank tax form.

7. Review the entire return before signing it Before you sign your tax return, review it and ask questions. Make sure you understand everything and are comfortable with the accuracy of the return before you sign it.

8. Make sure the preparer signs the form A paid preparer must sign the return as required by law. Although the preparer signs the return, you are responsible for the accuracy of every item on your return. The preparer must also give you a copy of the return.

My usual rule of thumb holds: If it sounds too good to be true, it probably is.

I was at an audit this afternoon at the Laguna Niguel IRS office. The return (prepared by an unenrolled preparer) had gross errors. Frankly, any competent preparer should have caught these errors. Unfortunately, the individual who prepared the original return was anything but competent.

This is an example of the problem the IRS wants to cure by forcing preparers to meet basic competency standards. Is this a good thing or a waste of time and money? I think it’s basically a wash.

First, here’s what the IRS is proposing:

• All preparers except CPAs, Enrolled Agents, and attorneys will need to meet basic competency standards through passing an exam;
• Such preparers will also need to take 15 hours of Continuing Education annually; and
• Not all preparers in a firm will need to pass the exam.  Apparently, firms can have “non-signing” preparers who prepare the returns but are not allowed to sign them.

First, is there a problem? Yes, there are a lot of unscrupulous preparers out there. My experience with my client (and some other clients) show that many preparers will happily put down deductions and credits that the taxpayer doesn’t qualify for.

But I’m in California, a state where all preparers are already required to be licensed. Mr. Unscrupulous (the individual who prepared my client’s original return) had, in theory, a license from the California Tax Education Council (CTEC). Mr. Unscrupulous had to take a 60-hour course and pass an exam. Yet Mr. Unscrupulous still couldn’t figure out that an individual several years removed from college isn’t eligible for an education credit available only to individuals in their first two years of college.

I do think it will get rid of the lowest level of tax riff-raff. Those individuals will see the handwriting on the wall and get out of tax preparation. In that sense, it’s a win.

Unfortunately, I also think that Joe Kristan is correct in his criticisms of the plan. It will hurt some small tax preparation shops. I don’t think it’s as bad as Joe makes out, though. I’m a solo practitioner and have to be licensed (as an Enrolled Agent); I have not had any problems.

Joe’s other criticisms are accurate. Consumers will see an increase in price (basic economics tells us that). Enrolled Agents may get hurt in this. There’s some work going on behind the scenes so that the designation given to currently unenrolled preparers makes them seem like a lower-level preparer. We’ll see if that occurs or not.

There is one point that Joe and I agree on completely.

The real problem is Congress. A simple tax law without fraud-inviting refundable credits wouldn’t have preparer problems. At the very least, we should require Congresscritters to face the consequences of their own work. Every one of them should be required to prepare their returns themselves in a live (and archived) webcast. If they use software, their screens should be visible on the webcast. What about their privacy? They make us give them all of our personal information, so fair is fair.

I have yet to meet a tax professional who is happy with the current state of the Tax Code.

One last comment about the IRS plan. The IRS expects to begin to implement this in 2011. I expect delays and a very lengthy implementation schedule. The IRS announced plans to privatize the Special Enrollment Examination (the exam that allows an individual to become an Enrolled Agent); it took two years before that actually occurred. While something may begin in 2011, I expect this process to take the better part of the new decade.

The IRS announced this morning that it will soon require registration and exams for most tax preparers who are not regulated. The report in the Wall Street Journal notes that the changes “will take several years to implement and will not be in effect for the 2010 filing season.” Attorneys, CPAs, and Enrolled Agents will not be impacted by this new requirement (they will remain subject to their current licensing procedures).

I’ll link to the IRS press release when it becomes available.

It’s time for businesses to send out their annual information returns. These are the Form 1099s that are sent to to vendors when required. Let’s look first at who does not have to receive 1099s:

• Corporations (except attorneys)
• Entities you purchased tangible goods from
• Entities you purchased less than $600 from (except royalties; the limit there is $10)

Otherwise, you need to send a Form 1099-MISC to the vendor. The best way to check whether or not you need to send a 1099 to a vendor is to know this before you pay a vendor’s invoice. I tell my clients that they should have each vendor complete a Form W-9 before they pay the vendor. You can then enter the vendor’s taxpayer identification number into your computer (along with whether or not the vendor is exempt from 1099 reporting) on an ongoing basis.

Remember that besides the 1099 sent to the vendor, a copy goes to the IRS. If you file by paper, you likely do not have to file with your state tax agency (that’s definitely the case in California). However, if you file 1099s electronically with the IRS you most likely will also need to file them electronically with your state tax agency (again, that’s definitely the case in California). It’s a case where paper filing is easier than electronic filing.

We should all probably enjoy this year and next year vis-a-vis 1099s. It looks like the corporate exemption for 1099s will end in the near future, and that means more paperwork for businesses and more work for tax professionals.

Most of the advice given in the tax blogosphere is good. However, I saw this posted today:

My business had a really profitable month. Do you have any ideas on last minute expenses to help lower my taxable income?

Depending on how many purchases you want to make, you could consider office furniture or computer equipment. Alternatively if you are looking for something cheaper, you could pay your January office rent early, or any other major bills such as your telephone service fee. On the other hand, you could defer some of your income until next year by waiting until after the end of the month to cash a check or two. [emphasis added]

The first part of the answer is generally good. In most cases, making a purchase of a major piece of equipment, especially if you can utilize Section 179 Depreciation, is an excellent way to lower your taxable income. And there’s nothing wrong with paying some bills early (if you’re a cash basis taxpayer). However, the last sentence is just bad advice because of constructive receipt.

The doctrine of constructive receipt governs when income is considered received. Section 1.451-2 of the Income Tax Regulations states, in part:

(a) General rule. Income although not actually reduced to a taxpayer’s possession is constructively received by him in the taxable year during which it is credited to his account, set apart for him, or otherwise made available so that he may draw upon it at any time, or so that he could have drawn upon it during the taxable year if notice of intention to withdraw had been given. However, income is not constructively received if the taxpayer’s control of its receipt is subject to substantial limitations or restrictions.

From Sainte Claire Corporation, et. al, v. Commissioner (T.C. Memo. 1997-171):

…[A] taxpayer will be found to be in constructive receipt of income where the taxpayer had an unrestricted right to receive the income, the taxpayer was able to collect it, and the failure to receive it resulted from the exercise of the taxpayer’s own choice. [citations omitted]

If you receive a check in 2009 but let it age in your office until 2010 it’s still income in 2009 because you deliberately chose not to cash the check.

If you have an unexpectedly good December and can take Section 179, buy the new computer (I’m getting one on Wednesday). Get a new desk (I got that yesterday). Pay a bill or too early if you’re a cash-basis entity. But don’t hold onto the check until 2010.