IRS First-Time Abate Penalty Waiver and the Report from the Treasury Inspector General for Tax Administration

Update: IRS Makes Changes To Its First-Time Abate Penalty Waiver (6/17/13)

Have you heard of the IRS's First-Time Abate penalty waiver program (FTA)? If you haven’t you’re not alone.  Few taxpayers and tax professionals were aware of this program until a report from the Treasury Inspector General for Tax Administration (“TIGTA”) came out on October 17, 2012 auditing it.  This is because this program is not publicized by the IRS.  The only IRS overview of the program is in its Internal Revenue Manual (“IRM”) guidelines (20.1.1.3.6.1), which is a manual for IRS employees.  In its report, TIGTA points out that there is no mention of the FTA in the 1040 instructions, on the IRS’s website, “Eight Facts on Penalties,” or on balance due notices sent to taxpayers. 

The FTA is an administrative waiver which began for the 2001 tax year.  Ordinarily, taxpayers must show reasonable cause, a statutory exception or IRS error before the IRS will abate penalties.  A showing of reasonable cause requires an explanation that the taxpayer exercised ordinary business care and prudence in determining his tax obligation but nevertheless failed to comply with his obligation due to some specific circumstances.  Instead, the purpose of the FTA is to reward past tax compliance and promote future tax compliance.  Therefore, no showing of reasonable cause is required before relief is granted. 

As part of this program, the IRS will waive failure to timely file and timely pay penalties for a specific tax year as long as the taxpayer has demonstrated full compliance over the prior three years.  This relief is not automatically granted since in order to obtain the FTA waiver, the taxpayer must request it. 

TIGTA’s report analyzes the FTA program and provides several recommendations for improvement.  The IRS is currently in agreement with many aspects of these recommendations and is working to implement them.  If these recommendations are incorporated, the FTA will undergo substantial changes.

• TIGTA Recommends That The FTA Waiver Be Better Used to Promote Tax Compliance

Currently, in order to obtain an FTA waiver, taxpayers are not required to demonstrate full compliance by paying their current tax liability.  This feature of the program was criticized by TIGTA’s report and will likely be modified by the IRS.  TIGTA argues that allowing taxpayers relief before the liability is paid in full goes against the purpose of FTA.  Instead, FTA relief should be contingent upon the payment of the liability.

• TIGTA Recommends That The IRS Develop A Process To Address The Negative Impact To Taxpayers Who Qualify for Both FTA And Reasonable Cause Relief.

Current IRS procedures provide that when taxpayers qualify for both an FTA waiver and penalty relief based on reasonable cause, they are to be granted FTA waivers.  The reason for this policy is that it simplifies the abatement process, thereby conserving IRS resources.  TIGTA’s report determined that this process hurts certain taxpayers because they will be prevented from receiving FTA waivers in the future and the portion of their penalties abated may be reduced.  

For example, according to TIGTA's report, If a taxpayer’s penalties are abated due to reasonable cause in 2010, he may qualify for an FTA waiver for 2011.  Instead, when the taxpayer is granted an FTA waiver despite his reasonable cause in 2010, he is precluded from using the waiver in 2011.  If he has no reasonable cause excuse in 2011, he is left with no recourse. 

Furthermore, according to TIGTA's report, under the FTA waiver, abatement of the failure to timely pay penalty includes the assessed amount of the penalty but not the accrued amounts.  An abatement of the failure to timely pay penalty due to reasonable cause includes both the assessed and the accrued amounts.  The failure to timely pay penalty can reach 25% of the unpaid tax liability if it is left to accrue indefinitely.  Furthermore, while the penalty continues to accrue, it is only assessed periodically and most of the penalty is never officially assessed until there are funds in the taxpayer’s account to pay all or part of the penalty.  Therefore, a taxpayer seeking to abate the accrued amount of the penalty after an FTA waiver will have to submit an abatement request based on reasonable cause.  

As evident from TIGTA's report, the FTA has a lot of room for improvement.  Nevertheless, it's an important program of which taxpayers and their representatives must be made aware.  Over a million taxpayers are missing out every year on obtaining relief from penalties which they do not have to pay.  

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional. 

What Should You Know If Your Case Has Been Assigned To An IRS Revenue Officer

Who Is An IRS Revenue Officer 

An IRS revenue officer ("RO") is a highly trained employee of the IRS collection division.  ROs are granted total collection authority by the IRS and are therefore able to make phone calls and visit you at home or at your place of business.  If you are not at home or work when the RO comes to visit, he or she will leave a request that you contact them by a specific date.  This request should not be ignored.  If you do not voluntarily comply with this request, the RO has the power to summons you to a mandatory meeting.  The RO also has the power to garnish wages and bank accounts, seize accounts receivables and seize property.  It is very common for an RO to use these collections techniques against an uncooperative taxpayer.

Every RO is different.  I have personally worked with many ROs who care deeply about a taxpayer's situation and do everything in their power to find the best solution possible.  I have also worked with unreasonable ROs who don't have patience for excuses and are quick to garnish wages and seize bank accounts.

The bottom line is that ROs are people with a very difficult and dangerous job. Although they do not carry weapons or make arrests, they do work long hours and make face-to-face contact with many unreasonable and desperate people.  It is not uncommon for an RO to be threatened on the job.  Dealing with a reasonable and responsive taxpayer is often a welcome opportunity for an RO.

Why Is An RO Assigned To Your Case?

If you owe the IRS money, the IRS may assign your case to an RO for a number of reasons.  These include: (1) you owe a large debt (2)  you owe payroll taxes (3) you have unfiled tax returns and/or (4) the regular IRS collection division has been unsuccessful in collecting from you.

What Should You Do?

If you receive a call or visit from an RO, do not ignore the RO.  Whether or not you should hire a tax controversy attorney to represent you depends on how comfortable you are dealing with the RO and the complexity of your tax situation.  If you decide to handle communications with the RO on your own, consider the following:

1. You should obtain a complete snapshot of your account with the IRS.  In order to do this, contact the IRS in order to gather the following information:
• Confirm that all necessary tax returns have been filed 
• If any tax returns have not been filed, these need to be prepared and filed immediately.  In order to get these prepared, request that the IRS send you your Wage and Income Transcripts for the tax years that have not been filed.  Wage and Income Transcripts show your W2s, 1099s, mortgage interest information, etc.  
• Request that the IRS send you an Account Transcript for each year that you have a balance.  This transcript will show you each year's balance due and the interest and penalties that have been added on.  
2. Keep in contact with the RO and comply with his or her requests.  As mentioned above, ROs have complete collection authority and will use it against you if you are unresponsive. 
3. The RO will want to resolve your account by reviewing your finances in order to determine whether you can (1) pay your balance in full, (2) pay on an installment agreement or (3) cannot pay at all. If you need more time than the RO initially allows to gather your financial information, request an extension.  Do not ignore deadlines.  
4. The documentation and information that the RO will request varies depending on your specific circumstances.  If you feel that the RO's request is burdensome or unreasonable, it may be best to contact a tax controversy attorney.
5. The RO has the power to abate delinquency penalties.  Therefore, if you have a good reason for failing to file your returns on time or failing to pay your liability in full, bring the issue up with the RO.

Finally, understand that ROs are often out of the office (making personal contact with other taxpayers) or are in training.  Therefore, it is common that an RO will take his or her time responding to your or your attorney's calls.

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional.

Notice of Federal Tax Lien: Understanding IRS Tax Liens

A Notice of Federal Tax Lien ("Notice") from the IRS is a public document meant to alert creditors that the government has a legal right to your property, all your rights to property and to property that you acquire after the lien is filed.  This Notice is issued because you have not paid your tax debt.  The purpose of the lien is to protect the government's interest in your property.  Nevertheless, the mere existence of this lien does not transfer title or constructive possession of your property to the government.  Instead, the IRS must either levy against the property or bring a civil action to collect the tax.

The IRS will only file a tax lien against you if (1) the IRS assesses your liability (2) sends you a bill that explains how much you owe and (3) you do not pay the debt in time.

When this Notice is filed, it is important to know your rights and options.  Many people intend to borrow funds to pay off their tax debts and the filing of the Notice may harm their ability to obtain these funds.  Also, people with tax liens on their credit records also may have a harder time getting a job, a car loan or finding a place to live.

Currently, as part of its Fresh Start Program, the IRS will not issue a tax lien unless you owe at least $10,000 in taxes.  Nevertheless, the IRS warns that a tax lien may still be filed on amounts less than $10,000 when circumstances warrant.

Appeal Rights 
The IRS is required to send you the Notice by certified mail under I.R.C. section 6320 within five days of the lien being filed.  The Notice also provides you with information about your appeal rights.  If you believe that this Notice is filed in error, you have 30 days to appeal.  The Notice is filed in error if any of the following apply:

• You satisfied your liability before the lien was filed
• Assessment of the tax liability violated either the notice of deficiency procedures (i.e. the notice of deficiency was mailed to the wrong address or you have already filed a timely petition with the Tax Court) or the bankruptcy code. 
• The statute of limitations for collection ended before the IRS filed the notice of lien 

If you request a hearing, the hearing will be conducted by an Appeals officer who was not previously involved with your case.  If the Appeals officer reaches a decision that you do not agree with, you may seek judicial review by filing a tax court petition within 30 days of the Appeals officers' decision.  

Release Of Lien
Per I.R.C. section 6325(a), The IRS will issue a Certificate of Release of Notice of Federal Tax Lien within 30 day after either:

• You pay the full amount of your debt, penalties, interest or the IRS adjusts the amount due 
• The IRS accepts a bond guaranteeing payment of the debt 
• A decision is made to adjust your account during an Appeals hearing or 
• The period during which the IRS can collect the tax ends.  

If the IRS has not released the lien within 30 days, you can request a Certificate of Release of Federal Tax Lien.

Withdrawal Of Lien 

Even if the IRS agrees to release a lien, it will remain on your credit report as "released" for up to seven years.  Therefore, you must request that the IRS also withdraw the lien in order for the IRS to remove the public notice.  This is not automatic.  In order to request that the Notice be withdrawn, you must complete Form 12277.  

General Instruction four on the form also states that you must request in writing that the IRS notify other interested parties of the withdrawal notice. You must provide the names and addresses of the credit reporting agencies, financial institutions and or other creditors that you want notified.  

In order to qualify for a withdrawal,

• Your tax liability must be satisfied and your lien must be released
• You must have filed all individual, business and information returns for the bast three years.  
• You must be current on your estimated tax payments and federal tax deposits 

Withdrawal Of Lien After Entering Into An Installment Agreement

If you meet the eligibility requirements, the IRS may withdraw your Notice after you enter into a direct debit installment agreement.  You will still need to complete and send the IRS Form 12277 to obtain the withdrawal. In order to be eligible, you must meet the following requirements: 

• The amount you owe must be $25,000 or less
• Your installment agreement must full pay the amount you owe within 60 months or before the collection statute expires (whichever is earlier)
• You must be in full compliance with other filing and payment requirements 
• You must have made three consecutive direct debit payments 
• You cannot have previously received a lien withdrawal for the same taxes (unless the withdrawal was for an improper filing of the lien)
• You cannot have defaulted on you current or any previous direct debit installment agreement.  

The IRS certainly does not make it easy or obvious for you to take the necessary steps to repair your credit.  Nevertheless, you do have options and is very important to be aware of your rights and obligations when resolving your tax liability with the IRS.

For a great overview and more information about the IRS Lien Process, please see this article by Attorney Anthony E. Parent.  

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional. 

Recent Development in Foreign Bank Account Reporting

On June 26, 2012, the IRS released information about a new procedure (scheduled to go into effect on September 1, 2012) which will allow some non-resident U.S. citizens to resolve tax issues relating to their foreign bank accounts.  This will affect non-resident U.S. citizens who are behind on filing their U.S. income tax returns and/or disclosing their foreign bank accounts.  

All U.S. citizens, even those who reside abroad, are taxed on their worldwide income.  U.S. citizens with foreign bank accounts are also required to file Reports of Foreign Bank and Financial Accounts (FBARs) if the aggregate value of the accounts exceeds $10,000 at any time during the year.  

If these non-resident U.S. citizens qualify as low compliance risks, they have the option to come into compliance with their filing requirements without having to participate in the Offshore Voluntary Disclosure Program (“OVDP”). The OVDP allows US citizens to voluntarily come forward and report their foreign bank accounts. In order to participate in the OVDP, the U.S. Citizen is required to pay significant penalties calculated on the amount of tax owed and the value of the foreign bank account(s). In exchange, the government promises not to impose fraud penalties and to forgo criminal prosecution.

Under the new procedure, if the IRS determines that the taxpayer presents a low level of compliance risk, the IRS will expedite review of the taxpayer’s submission, will not assert penalties and will not pursue follow-up actions. The downside to this procedure is that the IRS could also determine that a taxpayer’s submission presents a higher compliance risk and is therefore not eligible for the procedure. If this is the case, the IRS will conduct a thorough review of the taxpayer’s information and possibly even a full examination. The taxpayer must make the determination of whether or not he is a low compliance risk taxpayer before he submits the required documents. If the taxpayer’s determination is incorrect, the taxpayer will be treated as if he opted out of the OVDP and chose to quietly disclose his account. This could subject him to substantial penalties and possible criminal prosecution.

In making its determination regarding the level of compliance risk, the IRS will consider the simplicity of the return and the amount of tax due. A taxpayer with simple tax returns and less than $1,500 in tax due in each of the years will most likely be considered a low compliance risk submission. If, on the other hand, the IRS determines that high risk factors are present, the submission may not qualify for the procedure. These risk factors that the IRS considers include, but are not limited to, the income and assets of the taxpayer, any indication of sophisticated tax planning or avoidance, material economic activity in the United States, the amount and source of United States source income and any history of noncompliance with US law. The IRS has stated that additional information regarding these specific factors will be released before this procedure goes into effect.

In order to take advantage of this procedure, the taxpayer must (1) file delinquent tax returns with appropriate related information returns for the past three years (2) file delinquent FBARs for the past six years, (3) provide any additional information regarding compliance risk factors which may be required by future instructions and (4) pay any federal tax and interest due.

Overall, this procedure will provide a welcome alternative to the OVDP to non-resident U.S. citizens who clearly fall into the low compliance risk category. Prior to the announcement of this procedure, these low risk non-residents could either participate in the OVDP and pay substantial penalties or participate in the risky quiet disclosure by filing their delinquent returns and FBARs.  

On the other hand, those taxpayers who are concerned about criminal prosecution should instead take advantage of the OVDP. Unlike the OVDP, this new procedure does not guarantee protection against criminal prosecution. It is important to note that once the taxpayer makes a submission under this new procedure, he can no longer participate in the OVDP. If a taxpayer is ineligible for the OVDP, he would also be ineligible for this procedure.

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional. 

The IRS Makes Substantial Changes to the Offer In Compromise Process

On May 21, 2012, the IRS announced a new expansion of its "Fresh Start" program.  As part of this expansion, IRS has made a number of substantial changes to the Offer In Compromise (OIC) program (the program that allows taxpayers to settle their debts with the IRS for less than they owe).  These changes are more defined than the original "Fresh Start" Streamlined OIC which promised flexibility for certain offers but did not provide specifics. 

These new changes revise the financial analysis used to qualify a taxpayer for the program.  As a result, more taxpayers will have a chance to participate in the program and those who have submitted an OIC in the past and were rejected should consider refiling.  

Key points of the changes include:

• Revisions made to the calculation of a taxpayer's future income
• An expansion of the allowable living expenses which offset monthly income 

In order for the IRS to accept a taxpayer's OIC, the IRS must believe that the amount owed by the taxpayer cannot be paid in either a lump sum or through a payment arrangement.  In order to make this determination, the IRS looks at the taxpayer's Reasonable Collection Potential (RCP).  This RCP is the minimum that the taxpayer should offer to settle a liability and it is calculated through a two part formula (1) Future Remaining Income and (2) Total Available Assets.  

• Future Remaining Income

In order to determine Future Remaining Income, the IRS reviews the household income and allowable living expenses of the taxpayers.  If the taxpayer has income left at the end of the month after all allowable living expenses are accounted for, the IRS will require that this Future Remaining Income be paid as part of the offer.  Prior to these changes, the IRS would multiply this income by 48 or 60 months (depending on whether the offer could be paid in less or more than five months respectively).  Now the IRS will only look at one year of future income for offers paid in five or fewer months and two years of future income for offers paid in six to 24 months.  

What this change means is that before, a taxpayer with $500 left over at the end of the month would have to offer at least $24,000 to settle a liability.  Now this taxpayer will have to offer at least $6,000. 

In addition, the IRS has expanded the allowable living expenses to include credit card payments, bank fee charges and minimum student loan payments.  Furthermore, the IRS will also allow the repayment of state and local delinquent taxes, based on the percentage basis of tax owed to the state and IRS.  

What this means is that if a taxpayer owes the state $25,000 and the IRS $100,000, the taxpayer owes the state 20% of the total liability and the IRS 80% of the total liability.  If the taxpayer has $500  of disposable income per month, the IRS will allow $100 towards the repayment of state delinquent taxes. 

• Total Available Assets

The IRS requires that the taxpayer include all equity (less a quick sale discount for some assets) in assets owned by the taxpayer as part of the offer.  

While this second step appears straightforward, the IRS also includes the value of dissipated assets into the calculation of the RCP.  A dissipated asset exists "where it can be shown that the taxpayer has sold, transferred, encumbered or otherwise disposed of assets in an attempt to avoid the payment of the tax liability or used the asset or proceeds (other than wages, salary, or other income) for other than the payment of items necessary for the production of income or the health and welfare of the taxpayer or their family, after the tax has been assessed or within six months prior to the tax assessment."

For example, if a taxpayer has a 2007 tax liability with the IRS and sold his or her business in 2009, the taxpayer will have to provide an extensive and detailed accounting to the agent showing that the proceeds from that sale were used for the production of income (i.e. invested in a new business) or for necessary living expenses.  

As part of the new changes, the IRS states, that it can generally go back only three years to include dissipated assets, including the year of submission.  If the offer is submitted in 2012, assets dissipated prior to 2010 will not be included.  Nevertheless, this change is subject to exceptions where it may be appropriate to include the value of the asset dissipated more than three years ago.  The IRS provides several examples of these situations which, it notes, are not exclusive. These include:

• The dissolution of an IRA to pay for a child's wedding 
• The refinance of a house where the funds were used to pay credit card debt incurred during an extravagant vacation 
• The sale of real estate where the funds were gifted to family members 

Overall, it appears that the determination of whether dissipated assets should be included in the offer amount should be evaluated on a case by case basis and is up to the discretion of the individual agent assigned to the offer. As a result, these changes would still require the taxpayer who sold his business in 2009 to provide an accounting that shows that the proceeds were used for the production of income or for allowable living expenses.  This is evident from the examples provided by the IRS of situations in which the value of an asset should not be included:

• The dissolution of an IRA during unemployment or underemployment where a review of available sources verifies that the taxpayer's income was insufficient to meet necessary living expenses
• The disposition of an asset and use of the funds to purchase another asset which is included in the offer amount.  

Although the changes relating to dissipated assets appear to have little effect on the OIC process, hopefully, these changes will at least make it easier for taxpayers to avoid inclusion of these assets where the income actually was used to pay for necessary living expenses or the production of income.  

Regardless, the changes made to the calculation of Future Remaining Income should make a substantial difference in the amounts and types of offers that will be accepted.  

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional. 

Trying to Leave California? Maybe Not: An Overview of California Residency Rules

If you intend to leave California and make another state or country your permanent home, avoiding California income taxes may be more difficult than you think.  Even if you do not live or earn income in California, you may be held to be a resident of California (or at the very least you may have to prove to California that you are a non-resident). 

If you file a California income tax return and claim that you are a non-resident of California, The Franchise Tax Board ("FTB") may conduct a residency audit. During this audit, you may be expected to provided (1) records detailng the purchase, sale or lease of real property (2) vehicle and vessel registration (3) Business activity information (such as employment contracts and travel logs) (4) Finacial records (including bank and credit card statements) and (5) records and information about your voting history and which service providers you have retained (i.e. doctors, attorneys, accountants, etc). 

Furthermore, if you do not file an income tax return in California and the FTB determines that you have some connection with the state of California, the FTB may prepare a proposed assessment of income taxes on your behalf.  If, for example, you hold a contractor's license in the state of California but do not live here, the FTB may estimate a reasonable salary for a contractor in California and assess taxes on this salary.  Examples of other contacts include: other licenses, owning a home, a vehicle or the payment of mortgage interest in California.  Once a proposed assessment has been filed, you must either contact the FTB and convince them that you are not a resident of California or file a nonresident tax return (which could be subject to a residency audit).  A successful determination that you are not a resident for one year may not prevent the FTB from preparing a proposed assessment on your behalf for the following year for the same reason.  

California defines "resident" as "every individual who is in this state for other than a temporary or transitory purpose and every individual domiciled in this state who is outside the state for a temporary or or transitory purpose."

The FTB claims that "the underlying theory of residency is that you are a resident of the place where you have the closest connections." The FTB has a list of factors to determine your residency status.  

1. The amount of time you spend in California versus the amount of time you spend outside of California.  
2. The state where your spouse and children are located
3. the state where your principle residence is located 
4. The state that issued your driver's license
5. The state where your vehicles are registered
6. The state where you maintain your professional licenses
7. The state where you are registered to vote
8. The location of the banks where you maintain accounts
9. The origination point of your financial transactions 
10. The location of your medical professional and other healthcare providers, accountants and attorneys
11. The location of your social ties, such as your place of worship, professional associations, social clubs and country clubs where you are a members. 
12. Location of your real property and investments 
13. Permanence of your work assignments in California. 

What does this mean for you if you have decided to leave California and take up residence in another state or country? This means that you have to substantially sever your connections with California when you leave and establish significant connections with the new state or country.  You may not maintain connections in California in readiness for your return.  

For example, you obtain a job opportunity in Arizona, leave California and move to Arizona on January 24, 2012.  Instead of selling your California home, you decide to keep it as a vacation home for when you come visit your grown children and friends.  You have an account with a California bank which you do not close. Your driver license does not expire for another three years and you make no effort to cancel it.  You also make several trips a year to visit your family and friends in California and, while there, you visit your regular doctor and/or dentist.  Under this fact pattern, if you are audited by the FTB, it may be determined that you are a resident of California for the 2012 tax year because you have maintained your connections in California in readiness for your return.  (These facts are similar to that of in the Appeal of Nathan H. and Julia M. Juran, where it was determined that Mr. and Mrs. Juran were residents of California).  

Those who are present in California for a vacation or a business transaction, are not automatically considered residents.  Nevertheless, when the visit becomes for other than a temporary or transitory purpose, you become a California resident.  This purpose could include being assigned to an office in California for an indefinite period or an indefinite recuperation period from an illness or injury. In addition, being present in California for more than nine months creates a rebuttable presumption that you are a California resident.  This is regardless of whether you also have connections with another state and consider yourself a true resident of that state (i.e. your wife and children remain in Arizona).  

In conclusion, if you intend to leave California, your intent to leave and make another place your permanent home is not enough.  Instead, California looks at whether the physical facts demonstrate that you have have relinquished your California residency.  Likewise, if you are present in or have contacts with California but consider yourself a resident of another state, you may still have to convince the FTB that you are not a resident and therefore are not subject to California income taxes.  

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional.  

S.B. 459: California's Attack on the Independent Contractor Classification

It is not uncommon for business owners to avoid paying taxes and employee benefits (i.e. overtime pay) by hiring independent contractors instead of employees. These business owners are already at risk of an audit by the Employment Development Department and the IRS.  If the audit ends up in a reclassification, the business owner will be responsible for unpaid taxes, possible penalties and interests.  

Now, as a result of new California legislation, this practice of misclassifying workers can end up costing business owners and their advisers everything.    

• S.B. 459

As of January 1, 2012, the California Legislature enacted a harsh new law targeting the misclassification of workers as independent contractors by California business owners. Under S.B. 459, a business owner can be found to have engaged in the following unlawful activities:

1. The "willful misclassification" of an individual as an independent contractor and/or
2. Charging a willfully misclassified worker a fee, or making any deductions from compensation for any purpose that would have violated the law governing deductions from pay (Labor Code sections 221 and 224) had the worker properly been classified as an employee.  

Additionally, non-lawyer consultants are subject to joint liability for knowingly advising a business owner to classify a worker later determined to be an employee.

• Penalties

This laws allows California's Labor Commissioner or a court to levy a civil penalty of $5,000 to $15,000 for each violation found "willful." If it is also determined that the business owner engaged in a pattern or practice of "willful misclassifications" a civil penalty of $10,000 to $25,000 may be imposed. 

Additionally, this law also empowers the Labor Commissioner to assess additional damages of behalf of those misclassified (the workers themselves). As a result, if a business owner misclassifies a large group of workers as independent contractors, the business owner may be subject to a class action law suit by this group.  

• "Willful"

The key word here is "willful". "Willful misclassification" is defined as "avoiding employee status for an individual by voluntarily and knowingly misclassifying that individual as an independent contractor." Although this standard appears to be more stringent than the "voluntary and intentional" standard proposed in earlier versions of the law, it is still problematic because courts have defined "knowing" to included constructive knowledge. As a result, if it is found that the business owner should have known that the worker should have been classified as an employee, the misclassification will be found willful.  This is a very vague and subjective standard that will cause a lot of uncertainty and is unlikely to protect business owners who are simply mistaken about the proper classification.  

• Notice

In addition to the penalties, the law also requires the business owner to post a notice (either on its website or place of business accessible to all employees and the general public) at each location where a violation occurred.  This notice must contain the specific information about the violation, be signed by an officer and be posted for one year.  

In sum, this new law imposes potentially crippling and humiliating penalties upon California business owners who improperly classify their workers. Since the standards for determining whether a worker is an independent contractor or an employee are also often subjective, this law will likely excessively burden California business owners.  If the goal of the California legislature is to inflict fear in California business owners and thereby do away with most independent contractors, the new law will most likely succeed.  

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional.  

What You Should Know If You Have A Foreign Bank Account

Currently, the IRS considers international tax enforcement its top priority. Therefore, if you have a foreign bank account, it is extremely important to be aware of your reporting requirements or else be subject to substantial penalties and criminal prosecution.

• The 2012 Offshore Voluntary Disclosure Program ("OVDP") 

On January 9, 2012, the IRS announced its third OVDP.  The purpose of this program is to help people with undisclosed income from foreign accounts become current with their US tax obligations.  The IRS has not yet released additional guidance to assist taxpayers in participating in this program and there is no deadline to participate (currently the guidance in existence is from the 2011 OVDP). 

Only those taxpayer who are not currently under civil or criminal investigation by the IRS may participate in this program. 

For those who choose to participate in this program by making a voluntary disclosure, the IRS promises that significant civil penalties and criminal prosecution will not be imposed.  In order to participate:

1. The taxpayer must file FBARS (see below) and amended income tax returns for the last eight years
2. The taxpayer must pay all income tax owed to the U.S.  plus a 20% accuracy-related penalty and interest for the eight years of returns 
3. The taxpayer must pay 27.5% of the highest aggregate balance in the undeclared foreign account during the past eight years.  There are exceptions to this rule.  

• FBARS

U.S. persons must disclose their financial interests in, signature authority over or other authority over, foreign bank, security or financial accounts if the aggregate value of each account(s) exceeds $10,000 at any time during the year.  This requires the filing of a Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts ("FBAR").  The FBAR is an information return which is filed separately from the taxpayer's income tax return.  The deadline to file an FBAR is June 30th. 

If the IRS determines that a taxpayer's failure to file this form is willful, the IRS can impose substantial civil and criminal penalties.  If the violation is not willful, the penalty shall not exceed $10,000 per violation.  If the failure to file is due to reasonable cause and the account was properly reported, no penalty should be imposed.  

For each willful violation, the IRS shall impose a penalty which is the greater of $100,000 or 50% of the value of the account at the time of the violation (the time of the violation occurs on the due date for filing the FBAR).  A willful violation also subjects the taxpayer to five years in prison and/or a maximum fine of $250,000.  

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional.  

Voluntary Worker Classification Settlement Program: A Fresh Start for Employers

As part of its effort to provide a "Fresh Start" to taxpayers and businesses, the IRS created the Voluntary Classification Settlement Program (VCSP)  to allow employers to voluntarily reclassify their workers (or a class/group of workers) as employees for future tax periods.  

Many employers erroneously miss-classify their workers as independent contractors or non-employees.  Whether a worker is actually an employee or an independent contractor depends on the facts and circumstances involved.  Nevertheless, the classification issue is most often resolved based on whether the employer has the right to direct and control the worker as to how to perform the services.  There are many situations where correct classification is unclear.  

If the employer is audited and the independent contractors or non-employees are reclassified as employees, the employer will face a substantial tax liability, including interest and penalties, for three years of employment taxes. The VCSP allows employers to avoid this possibility by giving them the chance to preemptively reclassify workers.  The VCSP builds on the Classification Settlement Program (CSP) that has already been in place for years.  The CSP is available to employers already under IRS examination and allows prospective reclassification of workers as employees with reduced federal employment tax liabilities for past non-employment treatment.  The VCSP, on the other hand, allows taxpayers to reclassify without first going through the burden of an examination. 

The employer does not have to reclassify all workers in order to be eligible under the VCSP.  Nevertheless, if specific workers are reclassified as employees, all workers in the same class must also be treated as employees.  

In order to be eligible to participate in the VCSP, the employer: 

• Must have consistently treated the workers or a class/group of workers in the past as independent contractors or non-employees
• Must have filed all required 1099s for the workers for the previous three years.  These 1099s must have been filed within 6 months of their due dates (including extension) to qualify as having been filed.  
• Must not currently be under audit by the IRS, the Department of Labor or a state agency concerning the classification of these workers.  If the employer has previously been audited regarding the classification of the workers, the employer must have complied with the results of the audit in order to be eligible. 

In order to participate in this program, Form 8952 must be filed at least 60 days before the employer wants to being treating the workers as employees.  The taxpayer should also provide the name of a contact person or authorized representative with a valid Power of Attorney.  The IRS will contact this person in order to complete the VCSP process. 

If the employer is accepted into the VCSP, the employer will enter into a closing agreement with the IRS to finalize the terms of the agreement and make full payment of the amount due.  

If accepted into the program, 10% of the employment tax liability that would have been due on compensation paid to the worker (or class/group of workers) for the most recent tax year must be paid.  This amount is determined under the reduced rates of section 3509(a) of the IRC.  Interest and penalties will not be assessed and the employer will not be audited on payroll taxes with regards to these workers for past years.  

Under section 3509(a), the tax rate for compensation up to the Social Security wage base is 10.28% in 2011 and 3.14% for compensation above the Social Security wage base.  Currently, the most recently closed tax year is 2011 so the 10.28% rate applies.  

For example: if in 2011 an employer paid $100,000 to workers that the employer wishes to reclassify under the VCSP, the employment taxes applicable to the $100,000 would be $10,280.  10% of this amount is $1,028.  (In this example all workers were compensated below the Social Security wage base). 

The employer must also agree to be subject to a special six-year statute of limitations (rather than the usual three years) for the first three years under the program.  

The IRS promises not to share information about an employer's participation in the VCSP with the Department of Labor or with any state agencies.  Furthermore, the IRS states that a rejection of the form 8952 will not automatically trigger a Federal audit.  

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional.  

The IRS "Fresh Start" Initiative: Expanded to Help Struggling Taxpayers

Since 2008, the IRS has been adjusting its collections practices to help struggling taxpayers during this difficult financial climate.  

Part of these efforts is the "Fresh Start" initiative, announced on February 24, 2011.  The changes included in this initiative are: (1) Adjustments to Lien Polices (2) Easier Access to Installment Agreements for Struggling Small Businesses and (3) Expanding the Streamlined OIC Program.

Last week, the IRS announced a major expansion of this "Fresh Start" initiative.  As part of this expansion, the IRS is taking steps to provide new penalty relief to the unemployed and allowing even more taxpayers to qualify for an installment agreements.

Adjustments to IRS Lien Polices

Under the Fresh Start Initiative, the IRS will no longer file a lien if the tax owed is under $10,000 (unless special circumstances warrant otherwise).  

After a lien has been released because the tax liability has been satisfied, a taxpayer may request a withdrawal in writing by submitting form 12277. 

Furthermore, a taxpayer who owes $25,000 or less will be eligible for a lien withdrawal if he or she sets up an installment agreement through direct debit and makes three consecutive direct debit payments.  

Installment Agreements for Businesses

Small business that owe $25,000 or less in payroll tax, can set up an installment agreement without submitting a financial statement if the installment agreement allows for the debt to be paid within 24-months and the installment agreement is set up through direct debit.

Offer in Compromise

The streamlined OIC program is available to wage earners, the unemployed and self-employed taxpayers with no employees and gross receipts under $500,000.  A taxpayer is eligible for this program if his or her total household income is $100,000 or less and the amount owed to the IRS is less than $50,000.  If the taxpayer qualifies for this program, fewer requests will  be made for additional financial information and there will be greater flexibility in calculating a taxpayer's reasonable collection potential.  

Following the initial expansion of the streamlined OIC Program in 2011, the IRS has been working to put in place additional common-sense changes to the program to reflect real-world situations. 

  

Relief From Penalties 

The IRS plans to allow a six-month grace period on failure-to-pay penalties for certain wage earners and self-employed individuals.  In order to qualify, the taxpayer must fit into one of the following categories:

• Wage earners who have been unemployed for at least 30 consecutive days during 2011 or in 2012 (from January 1-April 17 2012).  
• Self-employed taxpayers who experience at least a 25% reduction in business income in 2011 as a result of the economy.  

Furthermore, the taxpayer's income must be equal to or less than $200,000, if filing married filing joint, or $100,000, if filing single or head of household.  The taxpayer's balanced owed for 2011 must also not exceed $50,000.  If these eligibility requirements are met, taxpayers need to complete Form 1127A in order to request relief.  

If the tax, interest and other penalties are fully paid by October 15, 2012, a request for an extension of time to pay will shield the taxpayers from the failure to pay penalty for 2011.  

Interest, which is currently 3% per year, is not affected by this grace period and will continue to accrue on unpaid back taxes.  

Installment Agreements

The IRS has also expanded the streamlined installment agreement process to allow individual taxpayers who owe $50,000 or less to request an installment agreement without having to submit a financial statement.  The maximum term for payment has also been raised to 72 months.  In order to qualify for for this expanded streamlined installment agreement, taxpayers must agree to pay through direct debit.  

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional. 

Unreasonable Expectations: Offer in Compromises and Tax Liens

While I was watching a YouTube video earlier today, an advertisement for Tax Resolution Services ("TRS") popped up. This was the first time that I heard of this company so I decided to do a Google search for reviews. A preliminary search revealed a B+ BBB rating due to 39 complaints filed. Eventually, during my search, I came across a website called Complaints Board and found the following review: 

"I hired TRS over 3 years ago and they have yet to have my case resolved. I paid $5,000 to have an Offer in Compromise submitted (that's already .25 cents on the dollar). They accepted payments over a 10 month period, but did no work at all until the entire amount was paid. My case has now been in appeals process with IRS since October of 2008. My current case rep at TRS (it has changed 5 times) tells me the IRS is the reason for delay. As of Aug 1, I now have to pay an additional fee of $1,500 or they will no longer represent me. This is not right. I can not believe they do nothing and then charge you for what are supposed to be IRS delays. Additionally, they did not stop (nor did they make any attempt to stop) the IRS from issuing a Tax Lien that appears on my credit reports. So, after 3 years, still carrying a monkey on my back, my credit is in the toilet, and the company that is contracted to resolve the issue is demanding more money - immediately." (submitted August 17, 2009). 

Although I don't know the exact circumstances of this case and all the facts involved, two issues in this complaint immediately jumped out to me as worthy of explanation: (1) the delay with the Offer in Compromise ("OIC") and (2) failure to stop an IRS lien.  

Offer in Compromise Delays 

These two issues reflect the unreasonable expectations of many taxpayers. First of all, the OIC process takes a very long time. The acceptance of an OIC is not a right, it is an exception to the general rule that taxpayers have to pay their taxes. This reviewer sounds extremely shocked at how long this OIC process has taken. Well, it can take a long time and IRS representatives can be very unresponsive.

After an OIC is submitted, it takes anywhere from six months to a year before a representative contacts you for additional information. If the representative decides to reject the OIC, and many of them do, an appeal should be submitted. It takes about another six months or more for a new representative to be assigned to the case. These representatives are IRS Appeals Agents who are swamped with cases. For example, I submitted an appeal for my client's OIC near the end of August 2010. I was contacted by an Appeals Agent in March of 2011. After all the documents requested by the agent were submitted and all the issues dealt with, the agent stopped returning my calls. I began calling and leaving her voice mails once a week. Eventually, after no call back, I left monthly voice mails. This OIC was finally accepted on January 19, 2012.

Tax Lien Prevention 

The other issue that I want to address is this reviewer's complaint that the company "did not stop (nor did they make any attempt to stop) the IRS from issuing a Tax Lien." The IRS almost always files a tax lien if a debt is owed and it is almost impossible to prevent the IRS from issuing the lien. The lien is there to protect the government's interest in the tax debts owed to it. 

In order for the IRS to release the lien, the debt must either be paid in full (or a bond is submitted that guarantees payment of the debt in full) or settled through an OIC. Additionally, if your tax debt is less than $25,000 and you set up a direct debit installment agreement (monthly payments will be withdrawn from your checking account), you can request that the IRS withdraw the lien after three months of successful payments. 

The other option is to wait for the collections statute of limitations ("SOL") to expire. The IRS has 10 years from the date of assessment to collect the taxes owed. Nevertheless, this SOL can be extended by a number of actions including, the filing of an OIC, bankruptcy, a formal request for an installment agreement and a voluntary agreement to extend the SOL. While this SOL is running, unless you have an installment agreement with the IRS, the IRS will do everything in its power to collect what you owe.  If they can, they will garnishing your pay check and take money out of your bank account.  

Since I don't know the specifics about this reviewer's billing complaint, I don't want to go too much into this issue.  This billing problem is probably the main reason that this customer posted this complaint.  If this reviewer had a flat fee agreement of $5,000 with TRS to submit the OIC, it was not right for this company to demand the extra $1,500 by threatening to terminate representation. Why they did so I do not know. 

It also does not seem right that the company waited to receive all the payments before they began working on the OIC.  Nevertheless, if this reviewer was informed beforehand that no work would be done before the balance was paid, she should not be complaining about the deal she agreed to.  Also, I do not know how much preliminary disclosure this reviewer received from TRS.  It is important for a tax professional to inform the client that the OIC process is burdensome and long and why tax liens will be filed.  Disclosure, frequent communication and flexibility in dealing with billing problems prevents clients from getting frustrated when their case does not go as planned. 

In conclusion, there are companies out there that take advantage of taxpayers and the OIC process.  Whether TRS is one of them, I don't know.  The company has bad reviews but so do other legitimate companies and attorneys.  I am not making a recommendation about the legitimacy of this company. If you are considering hiring this company, I recommend that you read the reviews yourself before you make a decision.  

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional. 

Does Your Home Office Qualify for a Home Office Deduction?

If you work from home (a house, condo, apartment or boat), you may be able to claim the home office deduction.  If certain requirements are met, this deduction is available to both self-employed individuals and employees.  In order to qualify, (1) the area used as a home office must be used, regularly and exclusively, for your business and (2) the business portion of the home must be either your principal place of business or where you meet or deal with patients, clients or customers in the normal course of business (therefore, if you do meet with clients at your home office, keep a log listing which clients you met with on which days). 

The "regularly and exclusively" requirement is probably the biggest barrier to using the deduction.  The area used as an office is usually a separate room or, if the division is clear, a section of a room may qualify.  The most important point is that personal activities must be excluded from the business section.  For example, an attorney who uses  a room in her home 10 hours a day, 7 days a week as an office will not be able to claim the home office deduction if her children are allowed to do their homework in that room.  

Nevertheless, there are two exceptions to exclusive use.  The exclusive use test does not have to be met if you use part of your home to store inventory or product samples or as a daycare facility.  To read more about these uses, take a look at IRS Publication 587.

This deduction is easier for self-employed individuals to claims than for employees because an employee's use of a home office must also be for the convenience of his or her employer.  For example, if the employer does not provide an employee with a work space at the employer's location, the employee may be entitled to a deduction for maintaining a home office.  If office space is provided by the employer and the employee also choose to work from home, the home office is not considered for the convince of the employer. Furthermore, the employee cannot rent any part of his or her home to the employer and then use the rented portion to perform services for the employer.  

If your use of a home office qualifies, some of the expenses that you are entitled to deduct include (1) a portion of your real estate taxes, (2) deductible mortgage interest (be careful not claim this interest twice), (3) rent, (4) utilities, (5) homeowner's or renter's insurance, (6) depreciation of your home and (7) painting and repairs (not permanent improvements).  If you make permanent improvements to your home, the value of these improvements is added to your basis in the home and can be recovered through depreciation.  If you choose to depreciate your home office, there may be consequences when you decide to sell the home. 

In order to calculate the deductible amount, determine the percentage of your home used for business and apply that percentage to the deductible expenses. For example, if the total area of your home is 2,000 square feet and your office is 200 square feet, the business percentage is 10%.  

If you are self-employed, you would use form 8829 to figure out your home office deduction and would report the deduction on your schedule C.  

Employees, on the other hand, would claim these costs as miscellaneous itemized deductions on their schedule A and these expenses must exceed 2% of the employee's adjusted gross income before they can be deducted.  Therefore, if you earn $60,000 per year, the first $1,200 of your expenses cannot be deducted.  If your total eligible deductions are $12,000 and your business percentage is 10%, that means you are left with no deduction.  

Finally, it is worth mentioning that the home office deduction has been subject to scrutiny because many believe that taking the deduction could trigger an audit.  This is most likely no longer the case as a result of changes made in the late 1990s.  Nevertheless, there is a lot of potential for abuse with this deduction, so it is important to keep proper records to back up this deduction in the event that you are audited.  You should use this deduction if you are entitled to it and can prove it in case of an audit.

For more information on claiming the home office deduction or for answers to your specific questions, take a look at IRS Publication 587.

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional. 

Offer in Compromise: Don't Get Caught in a Scam

If you owe taxes to the IRS, the IRS has an amazing program through which you can settle your tax debt for much less you owe.  Does this sound too good to be true?  For most people it is.  Although there is a program called the offer in compromise (OIC), very few people qualify to actually settle their debt.  The IRS will accept a settlement if you can prove that the IRS will not be able to collect the full amount of your debt before the statute of limitation for collection expires (this is known as your "reasonable collection potential" and it must be less than the amount of taxes you owe).  

Nevertheless, there are many companies out there who market themselves as being able to "settle your debt for less." These companies abuse the OIC program by reeling in consumers with deceptive promises and failing to qualify taxpayers for an OIC.  An example of one these companies is the Roni Deutch Tax Center (RDTC).  After being prosecuted by state agencies, Tax Attorney Roni Lynn Deutch (A.K.A the "Tax Lady"), closed her law practice and resigned from the California State Bar in May 2011.  

Deutch had an extremely promising start.  After obtaining her law degree, she opened her own tax practice in 1991.  After several years of success, she launched RDTC, a tax preparation franchise company. By 2009, RDTC was named on of the fastest growing franchise companies in the US.  In addition, Deutch was also a popular author, blogger and television show guest.  

Her downfall began in 2006 when the New York City Department of Consumer Affairs (DCA) sued her for misleading television advertisements.  The DCA argued that she failed to disclose eligibility requirements when advertising the OIC program, thereby concealing the fact that a majority of people do not qualify for the OIC.  Deutch settled this lawsuit for deceptive advertising practices in 2006 by agreeing to pay $300,000.  

In August 2010, the Attorney General of California filed a $34 million lawsuit against Deutch for her fraudulent scheme.  According to the lawsuit, "only 10% of her clients ever [got] their tax debts resolved.  Most quit or [were] terminated by Deutch's firm and [were] denied refunds after Deutch's staff bills them for work that wasn't performed." In the end, Deutch filed for bankruptcy, surrendered her bar license and closed her doors.  

Deutch's story should be a lesson to consumers: Be careful who you hire to resolve your tax problems and be particularly careful about companies advertising themselves as being able to settle your tax debts for less.  If the company is a fraud, an internet search may uncover its deceptive practices through customer complaints.  When you are hiring a representative for an OIC, be skeptical of guarantees made before your finances are reviewed. 

Also, be aware that the OIC process is difficult and time consuming.  It could take anywhere from 1-2 years for an offer to be resolved.  Nevertheless, many OICs are accepted every year.  In order to determine whether you qualify, a tax professional should consider your reasonable collection potential.  This amount is equal to the liquidation value of your assets (which includes 100% of your cash and investments) plus your monthly disposable income over a period of 48 months.  If this amount is less than what you owe to the IRS, you qualify for an OIC and must offer this amount as settlement.  

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional.  

Final Notice of Intent to Levy and Notice of Your Right to a Hearing

If you owe money to the IRS, you will receive a consistent stream letters that become progressively more threatening.  There is one letter, in particular, that may be the most important one you receive from the IRS. If you agree with your liability but have not yet paid it, this letter is titled "Final Notice of Intent to Levy and Notice of Your Right to a Hearing" ("Final Notice").  Do not ignore this letter or else you will soon find your bank account empty and your wages garnished.  The other important letter is the "Notice of Determination" which gives you 90 days to petition the Tax Court in order to dispute your liability. 

What does the Final Notice" mean? Lets go back to the beginning.  When you initially owe money to the IRS and your rights to dispute your liability in Tax Court have expired, you will receive a notice stating something along the lines of "according to our records, you have an amount due on your income taxes."  This notice will encourage you to pay your balance in full or set up an installment agreement.  This notice is polite because, at this time, your account with the IRS is not yet in Automated Collections.  Collections is the branch of the IRS that deals with actively collecting a liability due from taxpayers. If you do not respond to this notice, you may receive several other notices prompting you to pay.  Again, even though these notices appear increasingly more threatening, your account is still not in Collections.  Eventually, you will receive a notice titled "Intent to Seize your Property or Rights to Property" (CP-504).  The CP-504 is your final notice before your account is transferred to collections.  If you don't pay the amount due, the IRS may seize your state tax refund and file a Notice of Federal Tax Lien on your property.  

This is also the notice before the IRS sends you your Final Notice. When you receive the Final Notice, you have to request a Collection Due Process Hearing ("CDP Hearing") by filing out and sending in Form 12153 (please read this form carefully when you are filling it out).  When you request a CDP Hearing, the IRS will assign your account to an agent who will contact you directly through the mail or phone in order to set you up on an installment agreement or, if you are experiencing hardship, place you on Currently Non-Collectible Status ("CNC"). Otherwise, if you ignore this notice, there are no more protections between your assets and the IRS.  The IRS can and will go after you.  

In conclusion, when you receive mail from the IRS: read it and look carefully for any deadlines that the IRS has imposed.  If you don't, you may be in for a much bigger hassle then you orginally thought.  

This content is not intended as legal advice, and cannot be relied upon for any purpose without the services of a qualified professional.