Lesley A. Sive, Attorney at Law

A frequent question we often hear is “Can the IRS collect my tax debt from me for the rest of my life?”  Fortunately, the answer is no.

The IRS has 10 years to collect any taxes you owe.   The 10 years starts to run from the date the IRS first assesses the taxes against you.  For example, you file your tax return on April 10 showing you owe a balance you cannot pay with the return.  The IRS processes your return on May 1 and generates a notice showing the amount of taxes you owe.  The date on the notice starts the running of the 10-year collection statute.  Each assessment (usually each year) has a collection statute expiration date (CSED).

However, there are some circumstances which can extend the CSED.

• Filing bankruptcy
• Filing an offer in compromise
• Filing a collection due process request (appeal) with the IRS
• A proposed installment agreement is pending with the IRS
• The IRS files litigation against you
• Entering a combat zone
• Living outside the US

Further, the collection statute is restarted if an audit results in an additional assessment of taxes against you.

In resolving your tax liabilities with the IRS, the CSED can be crucial in the kind of resolution you may be able to, or want to pursue.  Contact us so we can help you with the best strategy in your case.

While the IRS uses both a lien and a levy as tools to go after taxpayers who owe taxes, a lien is not the same as a levy.

A lien is a legal claim the IRS files against a taxpayer’s personal or real property when you owe taxes.  It acts as the IRS’s security interest in the event that you do not pay your tax debt.  The lien will show up on your credit report and will affect your ability to buy a house, car or any other item you need financed.

A levy involves the legal seizure of your personal or real property to satisfy a tax debt you owe.  Most of the time, the IRS will issue a levy against your bank account or earnings, including wages, self-employment income, retirement accounts and social security income.

In order to avoid a lien or levy, call us so we can help you resolve your tax debt.  If you have had your bank account or income levied, we can help release or modify the levy.

The information in your personal tax return is critical in determining whether the IRS may choose to audit your return.  One of the ways your tax return can be selected for an audit is through computer screening.  The IRS computers can pick up certain “red flags” on your return.

Here are some items that can be “red flags” for an audit

GENERAL RED FLAGS

• Filing your tax return really late
• Filing an amended return with some substantial changes to your original return
• Reporting over the top deductions for mortgage interest. For example, small income but a large mortgage interest, can be a red flag
• Using the wrong tax preparer. Someone who promises a large refund by increasing your expenses and other deductions beyond what you can actually prove
• Owning a business
• You’ve been audited before
• High income individuals
• Claiming the Earned Income Tax Credit
• Claiming the Adoption Credit
• Filing a handwritten, sloppy return

If you are self-employed or own your own business, certain items on your Schedule C can act as red flags.

RED FLAGS ON SCHEDULE C THAT CAN LEAD TO AN AUDIT

• Not reporting all income. You must account for all cash, Form 1099s and other sources of income from your business
• Reporting little income but much larger expenses
• Reporting a high volume of cash reporting without having Form 1099s to show
• Reporting business losses year after year. You must show a profit in 3 out of 5 years, including the current year.
• Reporting expenses for an activity which is really a hobby and not a bona fide business. For example, if you deduct expenses for dog shows, hair braiding, collecting books, stamp collecting, antique collecting, cycling, horse racing, car racing and other recreational or sports activities, these may lead to an audit.
• Reporting certain expenses that appear substantially larger than expected for similar businesses.  For example, you are a hairdresser who works in a salon but you report large mileage expenses.
• Reporting large miscellaneous expenses
• Reporting large travel, meals and entertainment expenses
• Reporting large health care expenses
• Reporting large contractor expenses
• Using round numbers for all expenses. There is a good chance the numbers are made up or not accurate.
• Deducting home office expenses using a high percentage of the total square footage of your home.

THE MOST IMPORTANT PIECE OF ADVICE IS TO BE ACCURATE, HONEST AND REALISTIC IN REPORTING YOUR DEDUCTIONS.  YOU MUST ALSO HAVE AND KEEP ALL SUPPORTING DOCUMENTS NEEDED TO PROVE THE EXPENSES YOU CLAIM.

In order to answer this question, let’s talk a little about employment or payroll taxes.  Any business that uses employees, must withhold certain taxes from an employee’s pay check every pay period.   The taxes withheld are personal income taxes (federal and state), one half of Social Security (FICA) tax and Medicare taxes (collectively “withholding taxes”).  Since the employer holds these taxes “in trust”, they are known as trust fund taxes.  The employer must pay these trust fund taxes to the government on behalf of the employees through federal payroll tax deposits.

If a business fails to make the payroll tax deposits or makes insufficient tax deposits, the business will accrue payroll tax liability.  The IRS will attempt to collect these taxes from the business.  If the business cannot pay, or fails to pay its liability, the IRS will then assess a civil penalty, called the trust fund recovery penalty (TFRP), against those persons who are responsible for the collection and payment of the trust fund taxes.

The responsible person can be an owner or officer of a business or someone else who has the duty to account for, collect and pay in payroll taxes to the government.

So, depending on your position in the business, the answer is yes, the IRS can hold you personally liable for the payroll tax debt of the business.

Many people choose to pursue a hobby such as jewelry making, boat racing, coin collecting, baking, photography or showing dogs.   A hobby is something you pursue as a sport or for recreation or because you are passionate about it, but not to make a profit.  However, you can make money from some hobbies and incur expenses too.  Although you must report all income you make from a hobby on your tax return, does that also mean you can deduct the expenses as business expenses on Schedule C of your tax return?  The answer depends on whether the activity is a hobby or a legitimate business, engaged in making a profit.  There are several factors to consider in making this determination.

• Are you carrying on the activity in a businesslike manner and maintaining complete and accurate books and records?  Do you have a business plan?
• Does the time and effort you put into the activity indicate you intend to make it profitable?
• Do you depend on income from the activity for your livelihood?
• Are your losses normal in the startup phase of your type of business?
• Do you change your methods of operation in an attempt to improve profitability?
• Do you or your advisors have the knowledge needed to carry on the activity as a successful business?
• Have you been successful in making a profit in similar activities in the past?
• Does the activity make a profit in some years and how much profit does it make? An activity is presumed to be a for-profit business if it produced a profit in at least 3 of the last 5 tax years, including the current year.
• Do you expect to make a future profit from the appreciation of the assets used in the activity?

If you do not meet the criteria for being a business for profit, you can still deduct some of your hobby expenses but only up to the amount of your hobby income.  The expenses must be ordinary and necessary for the activity.  If you itemize on your return, the expenses may be taken as deductions on Schedule A.

PLEASE NOTE – Beginning in 2018, Under the Tax Cuts and Jobs Act (TCJA), although you must continue to report income from a hobby, you will no longer be allowed to deduct expenses you incur from that activity.

If you are an Uber or Lyft driver, rent out a room through Airbnb or provide a number of other goods or services through an online platform, you are involved in the “sharing economy.”  This is also known as the on-demand, gig or access economy.  In the last few years, the sharing economy has emerged as an area of activity that has changed the way people commute, travel, rent vacation accommodations and perform other activities, such as household chores or technology services.

Here are some of the potential tax issues you should consider if you engage in a sharing economy activity.

• Any income you receive through a sharing economy activity is generally taxable even if you don’t receive a Form 1099-MISC, W-2 or some other income statement.
• Even if you perform the activity as a side job or part-time job, and even if you receive cash, this is all reportable income.
• On the other hand, some or all of the expenses you incur in order to perform the activity, may be deductible.
• Since taxes are not being withheld from the income you earn, you should be paying estimated tax payments each quarter to the IRS. If you wait until your tax return is prepared to pay the taxes, you may not be able to afford the amount you owe. In addition, you will receive a penalty for not making the quarterly estimated tax payments.

Remember to keep good records to substantiate the income and expenses you report on your tax return.  This will help you if the IRS audits your return.

We can assist you with any questions you may have arising out of your sharing economy activity.  Please call us for a consultation.

An Offer in Compromise (OIC) allows you to settle your tax debt for less than the amount you owe.  However, just because the IRS accepted an OIC for your neighbor, co-worker or friend, does not mean that you will necessarily qualify for an offer.  An OIC may be an option for you if you can show that you are in a financial hardship and are unable to pay your liability in full during the time remaining for the IRS to collect the taxes from you.  (See blog on “Will I Have To Pay Back My Tax Liability Forever?”)

Whether or not you are eligible for an OIC depends on a unique set of circumstances for each applicant.

• What assets do you have and do you have equity in those assets that you can borrow against to pay the IRS? Assets include a residence, rental property, vacant land, an RV, a car, a boat and other similar items.  Retirement accounts, brokerage accounts, checking and savings account are also assets that will be considered in determining whether you qualify for an OIC.
• What is your monthly income and what are your monthly living expenses? Income includes wages, 1099 earnings, income from partnerships or S Corporation, bonuses, commissions, social security benefits, annuity payments, retirement income, royalties, interest and dividends.
• Expenses the IRS will take into account are food and clothing, housing and utilities, ownership costs of a car, vehicle operating expenses, public transportation costs, health and term life insurance, out of pocket health care costs, child or dependent care, current tax payments, student loan payments and certain other expenses. The IRS uses National and Local standards in determining how much of the above expenses to allow.  Credit card payments, payments on unsecured loans, tuition or student loan payments for your children are some of the expenses the IRS does not allow.

If you show an inability to pay your tax debt in full based on lack of equity in your assets and insufficient available monthly income, then the IRS may approve your OIC.

CONDITIONS TO BE MET BEFORE FILING AN OIC

You must be in compliance with both the filing of your tax returns and the payment of current taxes.  That is:

• You must file all tax returns you are legally required to file.
• If you are not paying taxes through withholding from your pay check, you must make all required estimated tax payments for the current year.

You may not file an OIC while you are in bankruptcy, have an open audit with the IRS or have an outstanding innocent spouse claim.

1.  File your personal income tax return by April 15 of each year even if you cannot afford to pay the taxes you owe.  If you don’t file on time, the IRS will not only add on a penalty for failure to pay (FTP) on time, but also a penalty for failure to file (FTF) on time.  In addition to the penalties, interest is also added on to the balance due.

2. If you obtain an extension to file your tax return, the IRS will not assess a FTF penalty against you as long as you file by the extension due date.  However, an extension to file, does not necessarily protect you from a FTP penalty.  In order to avoid the FTP penalty, you must estimate the amount of taxes you will owe and pay at least 90% of what you owe with the extension.  When you file your return by the extension due date, you must then pay off any remaining taxes you owe.

3. If you don’t file your tax return, the IRS can prepare a substitute for return (SFR) for you to take the place of your return.  When the IRS does this, they will not take into account any exemptions, deductions or credits you may have.  Therefore, any taxes you owe will generally be much higher than if you filed your own return.  Once you file your own return, the IRS will generally replace the SFR with your return.  However, the IRS will examine your own return much more closely and may choose to audit you.

4. If you are an employee (W-2), make sure you have sufficient federal (and state) taxes withheld from your pay check each pay period.  If you are under withholding and owe the IRS each year, the IRS may send your employer a letter requiring your employer to withhold additional taxes from your pay check.  Thereafter, you generally cannot change your withholding again until you stop owing taxes and have paid off any balance due.

5. If you are self-employed, you must make estimated tax payments to the IRS (and state) every quarter to avoid owing taxes each year.  That way, you can avoid having to come up with a large tax payment when you file your tax return.   If you don’t make quarterly estimated tax payments, the IRS will assess you with a penalty for failure to make estimated tax payments.  In addition, the IRS will add on a FTP penalty if you cannot pay the amount you owe with your tax return.  Interest is also added on to the amount you owe.

Always file your tax returns each year even if you think you won’t owe the IRS any money.   If you have an overpayment or refund due to you, unless you file your tax return within 3 years of the date it was due, you will lose the refund.  For example, if you had a refund of $1,000 due to you for 2008, unless you file your tax return by April 15, 2012, you will not receive the refund of $1,000.

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In February, 2011, the IRS announced a new program to help struggling taxpayers get a fresh start with their tax liabilities.  The goals of the program are to make it easier for taxpayers to pay back taxes by changing the policies on the filing of liens, make it easier for small businesses to enter into an installment agreement and expand the offer in compromise program.

The IRS files liens as claims against your real and personal property in order to secure the payment of taxes you owe.   The filing of the Notice of Federal Tax Lien serves as a public notice to other creditors that the IRS has a claim against your property.  Not only do these liens appear on title to your real property, they also appear on your credit record and can affect your ability to borrow money.   Even after the tax liability is paid off and the IRS releases the lien, the lien release will stay on your credit record for up to seven years unless the IRS agrees to actually withdraw the lien.

Under the Fresh Start program, the IRS has made several changes to the filing of liens in order to try to lessen the negative impact of a lien on a taxpayer:

1. Significantly increased the dollar threshold when liens are filed.
The IRS has increased the lien filing threshold from $5,000 to $10,000.  However, if a taxpayer owes less than $25,000 and sets up an installment agreement that will pay off the liability within 60 months, the IRS will often agree not to file a lien.  If the taxpayer defaults on the installment agreement, the IRS will then file a lien.

2. Made it easier for taxpayers to obtain lien withdrawals.
Generally, the IRS will release a lien when your tax liability has been paid in full, you have filed all personal, business and information tax returns for the past three years and you are current with your estimated tax payments and payroll tax deposits (if applicable).  Under the Fresh Start program, after the IRS has released the lien, you can now request a withdrawal of the filed Notice of Federal Tax Lien.  Thus, the lien will no longer appear on your credit record.  In order to request the withdrawal, you must complete IRS Form 12277, Application for Withdrawal of Filed Form 668(Y), Notice of Federal Tax Lien.  As the reason for withdrawal, you should check off box 8d, “The taxpayer…believes withdrawal is in the best interest of the taxpayer and the government.”

3. The IRS will allow lien withdrawals under certain circumstances, when taxpayers who owe $25,000 or less enter into a direct debit installment agreement to pay back the taxes.
The IRS may agree to withdraw the filed Notice of Federal Tax Lien if you enter into a Direct Debit Installment Agreement and are (1) a qualifying taxpayer and (2) meet certain other eligibility requirements.

In order to be a “qualifying taxpayer”, you must be:

• an individual filing a Form 1040
• a business with income tax liability
• an entity with any type of tax debt

The eligibility requirements are:

•  Your tax liability must be $25,000 or less.  You can meet this requirement by paying down your tax liability to $25,000 before requesting the lien withdrawal.
• Your Direct Debit Installment Agreement must pay off the amount you owe within 60 months or before the Collection Statute expires, whichever is earlier.
• You must have filed all applicable tax returns and paid all applicable current taxes.
• You must have made three consecutive direct debit payments on your installment agreement.
• You cannot have defaulted on your current, or any previous, direct debit installment agreement with the IRS.
• You cannot have previously received a withdrawal of a tax lien for the same taxes, unless the withdrawal was for an improperly filed lien.

If you are on a regular installment agreement, you may convert it to a direct debit installment agreement by contacting the IRS or using the IRS’s online services.

When completing IRS Form 12277, Application for Withdrawal of Filed Form 668(Y), Notice of Federal Tax Lien, check of Box 8b as the reason for requesting the withdrawal.  That is, “the taxpayer entered into an installment agreement to satisfy the liability on the lien, and the agreement did not provide for a lien to be filed.”

Be warned that, if you default on the direct debit installment agreement after the lien is withdrawn, the IRS may file another lien and pursue collection action against you for the liability.

Under the Fresh Start program, the IRS is also making it easier for struggling small businesses, with employees, to enter into installment agreements (known as the In-Business Trust Fund Express Installment Agreement.)   Generally, the IRS requires financial information and financial supporting documents from a small business to determine the amount the business must pay on an installment agreement.   Under the Fresh Start program, the IRS will generally not require this financial information as long as the business meets the following criteria:

• The amount of taxes owed is 25,000 or less (or the business can pay down its liability to $25,000).
• The tax liability must be paid within 24 months or before the expiration of the Collection Statute, whichever is earlier.
• The business must enroll in a Direct Debit Installment Agreement if the amount owed is between $10,000 and $25,000.
• The business must have filed all applicable tax returns and be current on all applicable tax payments.

The Fresh Start program also expands the Offer in Compromise (OIC) program to cover more taxpayers.

In order to qualify for an OIC, a taxpayer must generally prove financial hardship both with regard to (1) insufficient equity in his or her assets and (2) insufficient future income to pay off his or her tax liability within the time left on the Collection Statute.  It normally takes the IRS months to process an OIC and the IRS may require a taxpayer to produce substantial additional documentation to prove financial hardship.

Under the Fresh Start program, the IRS is attempting to “streamline” the OIC program by:

• Making fewer requests for additional information
• Making the requests by telephone instead of by mail
• Allowing greater flexibility in determining a taxpayer’s ability to pay

The IRS will consider OICs from (1) wage earners, (2) the unemployed and from (3) self-employed individuals with no employees and gross receipts under $500,000.

Under the Fresh Start program, the “eligibility” requirements for submitting an OIC are:

• Total household income is $100,000 or less and
• The taxpayer owes less than $50,000 when he or she files the OIC.

For updates and further information on the Fresh Start program, check the IRS website at www.irs.gov.

If you don’t file a tax return each year, the IRS will send you a notice reminding you to file your return.   If you fail to do so, the IRS will eventually prepare a substitute for return (SFR) for you using wage and other income information (such as 1099 income, interest, dividends and sale of stock) reported to the IRS for you in that particular tax year.  In preparing the SFR, the IRS will not take into consideration whether you were married filing jointly, had dependents you could claim for that year or whether you had any deductions or credits that could lower your taxes.  As a result, you could end up owing substantially more taxes based on the SFR than if you filed your own tax return.  If you fail to pay the taxes the IRS has assessed against you, the IRS will start collection proceedings to collect the taxes.  This could include issuing levies against your bank account or wages and filing liens against your property.

The first notice you will receive showing the IRS is preparing an SFR for you is a “Notice of Proposed Individual Tax Assessment” (Letter 2566), also known as the 30-day letter.  The letter will notify you that the IRS has no record of your individual tax return for a particular tax year and the IRS is proposing to assess taxes against you in a certain amount.  The IRS will also add interest and penalties to the amount of the proposed taxes.  The notice will show what income sources the IRS used in preparing the SFR.   You will then have 30 days to file your own tax return, agree to the IRS’s proposed assessment and collection of the taxes or dispute the IRS’s proposed assessment.

When you receive a 30-day letter, the best thing you can do is to call the IRS before the 30 days runs out and inform the IRS agent you talk to that you will be filing your own tax return.   If for some reason you cannot file your own tax return within the 30-day time period, you should request additional time to file it  from the IRS.  Once your own return is on file, the IRS will review the return and determine whether to accept and process it.

If you fail to respond to the 30-day letter, the IRS will send you a “Notice of Deficiency” (Letter 3219), also known as a 90-day letter.   The 90-day letter states the amount of tax you owe, plus penalties and interest.   The letter will notify you that within 90 days, you must submit your own tax return, agree to the IRS’s proposed assessment and collection of the taxes or dispute the IRS’s proposed assessment.  It also advises you that if you dispute the amount of the assessed tax, you have the right to appeal to the United States Tax Court by filing a petition no later than the 90-day deadline.  You do not have to file a petition with the Tax Court as long as you file your own tax return with the IRS within the 90 days.

Remember, you should always file your own tax return rather than letting the IRS prepare an SFR for you.  Once the IRS has prepared the SFR, you should still file your own return so that you can claim all exemptions, credits and deductions you are entitled to.  However, the IRS will examine your own return to determine whether to accept and process it in place of the SFR.  This examination could turn into a full blown audit of your own return if the IRS finds you have not included all income sources, or claimed credits or deductions you may not be entitled to.   The IRS could also ask for proof of any or all deductions you have claimed on Schedule A or C of your return.   If the IRS accepts and processes your own return, the IRS will adjust the numbers based on your own return.

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