IRS audit recon or not?

[cientax]

I have a new client that was audited for the year 2004 and all expenses were disallowwd becuase the auditor made the decision that she did not "participate in the business". It was a construction business and her then husband performed the physical labor as far as the construction goes. She had the business registered in her name, she received all the checks in her name, she made all deposits in the business bank account with both their names on the account, she received all 1099's in her name, she did all the paper work for the business and made purchases for the business, she also acquired most of the jobs for the business.

The problem is that they separated in May 2004 and husband filed MFS and she filed HOH. They divorced in 2005. She was the one that was audited and all income and expenses were reported on her tax return. The auditor told her that she did not have a construction business and that she also should have issued her husband a 1099 and because she didn't, all expenses were disallowed but the income remained. The auditor also piked up his return for audit but only made little changes for his vehicle expenses, nothing else. The auditor told them that if they were to file an amended return, that she would allow client the expenses on the amended return. Husband was cooperating with us at first but has now decided he won't file MFJ.

I was thinking of requesting audit reconsideration with an amended return reclaiming all expenses that were disallowed and requesting a different auditor and arguing the issues with them. But then I was also thinking of preparing a 1065 partnership return and issuing a K-1 to the exhusband and one to the client then make the amended return and take 50/50 for income and epenses.

Any ideas. Thanks.

[jainen]

>>audit reconsideration... amended return reclaiming all expenses... requesting a different auditor ... preparing a 1065<<

I admire your creative energy but I'm not optimistic about chances for success. Since her ex has already decided enough is enough, how are you going to come up with a retroactive partnership agreement? Trying to change the form of entity four years later in response to an audit is going to look like bad faith and a frivolous position, shifting quite a bit of risk from the taxpayer to the tax preparer.

Apparently she could not support her deductions with adequate records. That's not something audit reconsideration will accept; they require a NEW issue that was not considered previously. If she can not pursue this through normal appeals and tax court filings, you need to address it as a collection matter.

[ed_accountant]

I agree with Jainen. I would pass on this and suggest that the client seek a tax attorney to appeal the Audit.

I have handled many audits, but lately I only handle the ones for the returns that I prepare. I have found that the clients are never happy in the end of the audit. They usually end up oweing the IRS and owe accounting/audit fees to me.. They also are very time consuming and often cannot be fully billed to the client..

Good luck

[cientax]

>>audit reconsideration... amended return reclaiming all expenses... requesting a different auditor ... preparing a 1065<<

I admire your creative energy but I'm not optimistic about chances for success. Since her ex has already decided enough is enough, how are you going to come up with a retroactive partnership agreement? Trying to change the form of entity four years later in response to an audit is going to look like bad faith and a frivolous position, shifting quite a bit of risk from the taxpayer to the tax preparer.

Apparently she could not support her deductions with adequate records. That's not something audit reconsideration will accept; they require a NEW issue that was not considered previously. If she can not pursue this through normal appeals and tax court filings, you need to address it as a collection matter.

It's not that they don't or didn't have the records to substantiate the deductions, they did have and still do. It was the position of the auditor to disallow the deductions based on her opinion that the wife did not perform any physical construction labor, therefore she didn't have a business and because the wife didn't issue the husband a 1099. The only changes that I could find would be some vehicle expenses and possibly some income.

Another issue that I didn't mention is that this is Texas, a community property state. There was no allocation of income and expenses made on either return even during the audit. Another question arises here now. Since she filed HOH, can an allocation be made or does the filing status have to be MFS? IRC 66 doesn't mention anything about filing status, only separate returns. They were separated and did divorce and the community doesn't end in Texas until the divorce is final.

As far as filing a 1065, it was only a thought and I do agree with what you say, it wouldn't look good on my part. She only came to me after the 90 day period and now need to try to reopen it. I have never seen it in law where a woman cannot operate or own a business.

[RoyDaleOne]

I think the IRS auditor goofed. If the taxpayer was not in the construction, and the spouse was in the construction business why was the income not transferred to the spouse? Under the IRS auditor's own actions by disallowing the deductions the auditor determined that the income along with the deductions belong to the spouse.

Now what to do about that is another question,

[jainen]

>>It was the position of the auditor to disallow the deductions based on her opinion<<

Well, we weren't there so we can only speculate on the auditor's reasoning, but what you say IS what the auditor is hired and trained and authorized to do. Did the taxpayer have any representation? Because here is what I think happened. Just a guess, just a daydream of what maybe went down.

I think she made the auditor mad at her. The auditor's response is typical for that -- an all-or-nothing demand for permission to talk to the partner. I think the documentation was NOT very good (what construction company's is?) Even you admit they hid income and claimed too much mileage (what construction company doesn't?). And I think the taxpayer was fussing about splitting income and women running a business and the other guy's audit and a lot of other stuff you mention that had nothing to do with the specific expenses being questioned.

So the auditor got mad and officially told her to get it together in 90 days or else. But she couldn't get it together because there is no "it," and now time has moved on and we are into the "else" phase.

[cientax]

>>It was the position of the auditor to disallow the deductions based on her opinion<<

Well, we weren't there so we can only speculate on the auditor's reasoning, but what you say IS what the auditor is hired and trained and authorized to do. Did the taxpayer have any representation? Because here is what I think happened. Just a guess, just a daydream of what maybe went down.

I think she made the auditor mad at her. The auditor's response is typical for that -- an all-or-nothing demand for permission to talk to the partner. I think the documentation was NOT very good (what construction company's is?) Even you admit they hid income and claimed too much mileage (what construction company doesn't?). And I think the taxpayer was fussing about splitting income and women running a business and the other guy's audit and a lot of other stuff you mention that had nothing to do with the specific expenses being questioned.

So the auditor got mad and officially told her to get it together in 90 days or else. But she couldn't get it together because there is no "it," and now time has moved on and we are into the "else" phase.

As I mentioned above, the auditor pickup his tax return for audit and they were both there during the audit. It is possible that one of them did make the auditor mad but the records were in order and they were presented. They were using a good bookkeeper, she kept all records in order in files and labeled. I wasn't there either and they didn'e have any representation.

Back to the community property issue. Can community property be split on an HOH filing status? I have not seen where it can't be done. This is what we intend on doing incase the ex husband doesn't come around and make the MFJ election with her on the amended return we'll be filing when requesting audit recon. And yes we do have records to support what will be on the return.

[jainen]

>>Can community property be split on an HOH filing status?<<

Community income per se is not affected by filing status. But how are you going to make your point? Both spouses went to the audit and didn't object to the way income was divided as originally filed, the women insisting that she owned the company herself. Such an agreement between the spouses would probably override the presumption of community income. Now that the time limit for appeal has passed, you want the IRS to shift half the income to the ex-spouse who is no longer cooperating after the divorce. Good luck with that.

Maybe the auditor didn't understand, or was arbitrary or even vindictive. The time for dealing with that was way back then. Audit reconsideration is NOT a higher level of appeal. It is a rarely granted opportunity to bring something NEW, information that was not known or was unavailable to the taxpayer before. Have you got anything like that?

[BulldogTom]

ceintax,

Listen to Jainen on this one. I requested audit reconsideration, and the IRS never read my letter. They $hitcanned it and never even sent me a reply. I called and they just acted like it never got there. I have proof of mailing, but that did not impress the witch on the phone.

Your time will be better spent elsewhere than asking for an audit that will not be granted.

Kinder gentler IRS my butt. They are still the lazy, vindictive, incompetent slobs they always were. (no offense intended to anyone who every worked for them - just a generalization/opinion).

Tom

Lodi, CA

[jainen]

>>They are still the lazy, vindictive, incompetent slobs<<

Ain't it the truth? An' that brings up another issue, Tom. What would you talk about if you ever DID get back into audit? Can anyone seriously believe the examiner will get off on the finer points of community property in a divorce? Heck no! What she wants to hear is why a red-blooded Texas nail-pounding man puts his wife's name on his own paychecks.

Matter of fact, I want to know that too. I think it's probably the map to this whole dungeon, and it don't look so good for our spunky heroine. I'm not trying to discourage you, cientax, because I believe your client does need your professional assistance. I just want to inject some realism into your approach. For example, realistically you'd better collect your fee up front on this one.

[kcjenkins]

But it's not Tom's client, it's Ceintax's client. And I'd be willing to bet the idea of having it in her name was to enable them to bid on jobs as a minority business. Be that as it may, just because she did not give him a 11099 should not be the whole reason for denying that it was her business. Or if it was, then the income should have gone to the hubby. Here, she's left with the income, just not the expenses. That is crazy.

It may be worth a try, but I'd be sure and get a retainer, Ceintax.

[JerryH]

You could try audit recon. or pay tax and file a claim and or make an offer based on doubt as to liability.

Client and auditor are neither too bright. Always a mess if they let the 90 days go by. good luck get some$$ uup front

Did they stick her with se tax?

[BulldogTom]

KC is right (as always). It is not my client, and I know you want to do the right thing. Unfortunately, the 90 day window has closed, and the IRS has no incentive to open it back up. This is the real tragedy in this situation. Losing the appeals/tax court track are huge rights that the taxpayer has lost. The IRS does not need to let you go there, and it gets harder to get the proper result for your client if you cannot use the traditional methods and your client does not have a lot of $$ laying around to pay for the taxes, representation, and legal fees.

I have a client in the same mess. They don't know what they should be doing, but they know that what has happened to them is not fair. I know it too. But they let the 90 days go by in 2003, 2004, and 2005. I can fix 2006 and I am well on my way to doing that. I can make 2007 right and make sure they get the proper result that they are entitled to under the tax laws. But they are poor (yes, I am basically doing all of this pro bono) and cannot afford to go the court of claims route (at least not yet - I am still working on that one) for the back years where they got hosed.

Cientax - good luck. I know you care about your client, and that is a good thing. My advice is to forget about the audit recon route. My experience was that the process is not set up to benefit your client. Use your time and energy on a different tack that will produce better results. I would recommend amending the return, putting everything in order the best you can for that amended return, and see if you can get the IRS to bite on that one. When the IRS ignores or rejects the 1040X, file the claim for refund. They have to pay the taxes and sue for the refund after the IRS ignores them for another 6 months. It is not a pretty scenario.

Again, good luck. And if you have a better approach or get better results on the audit recon, please let us know.

Tom

Lodi, CA

[jainen]

>>But it's not Tom's client, it's Ceintax's client.<<

Yes, in my previous post I responded to Tom's comment but addressed my advice to cientax by name.

>>she's left with the income, just not the expenses. That is crazy.<<

It may be crazy, but I rather think it more likely that it was a reasonable interpretation of the facts and circumstances, at least in the way they were presented to the auditor. The client had neatly-labeled folders, but what was IN the folders? We know that it was not an accurate record of either income or expenses (according to cientax), and the auditor undoubtedly figured that out too. We know that the income and expenses for most of the year was not subject to community property laws, and that the auditor tried to convince the taxpayers that they were more properly allocable to the person on the construction site. (We don't know all her reasoning for this decision, but it doesn't sound crazy.) When the taxpayers insisted on separate returns, why shouldn't the auditor follow through with disallowing expenses she observed were somewhat make-believe and in any case not paid on behalf of the taxpayer? Without professional representation, the poor taxpayer never had a chance.

From our point of view it's unfair to leave the income and take away the expenses, but the IRS never has a problem with that sort of thing. Remember, the taxpayer herself insisted the income should be counted. The expenses are a separate matter and, right or wrong, she failed to convince the auditor that they were legitimate. A professional might have been able to resolve the inconsistent treatment, but as I said she probably made the auditor mad. Auditors are pretty touchy; you can't just throw around ideas like "unfair."

I'm making this IRS defense because that's how this was decided, and that's how it will be decided in any future review by agency or court. The only way to get through to them is in those terms. It's the concept behind allowing audit reconsideration only when there are new facts: if you present the same arguments, you'll get the same result.

[bay]

Here is my two cents worth - I currently have two clients that I requested audit reconsideration for - the background is long and I will not get into the details; but with the one client the hearing is next week and the audit reconsideration was requested one year ago. With the second client I am waiting to have a hearing date scheduled.

1) I understand that your client is "new" but I suspect that there is more to the story then you have been told by your client.

2) It appears to me that your client's divorce attorney dropped the ball in not addressing this issue or the potential of this liability in the divorce settelment or proceedings.

3) You must understand that to properly request a hearing and have it accepted by the IRS, that it takes alot of time. You can not just spend 15 minutes on your word processer requesting an audit reconsideration. You must disclose and detail as much as possible each item you disagree with; and provide them with as much documentaiton as possible. This can easly take several hours of work. The last one I sent in to the IRS in September of 07, between my self and my secretary I spent about 12 to 15 hours preparing everything that I sent in to the IRS.

4.) I would have a sit down with your client and tell her that it can be very time consuming and that there is no guarantee of sucess; if she wants to move forward then I would get a nice size retainer up front.

5) If you do file for an audit request I would suggest sending in everything via certified mail; and then you HAVE TO BE PRO ACTIVE AND CALL THEM ONCE A MONTH UNTIL YOU get a date set.

Finally I have found then when I am professional and courteous to the IRS; they are professional back with me.

good luck

[kcjenkins]

I'm making this IRS defense because that's how this was decided, and that's how it will be decided in any future review by agency or court.

How very true. They make the rules, they interpret the rules, and if they feel like it, they often ignore their own rules. But the next level up almost always 'rubber-stamps' the results. That is just how it is, and there is very little you can do about it.