From time to time taxpayers will receive a notice from a taxing authority.
When this happens the taxpayer is often concerned and frustrated and wants to know what generated the notice. The notice generally does not mean that the taxpayer is under audit. Rather, the notice means that the taxpayer has not filed a required return or the information on the return that was filed does not correspond with other information received by the taxing authority.
One of the most common types of notices that is generally received quickly after the tax filing submission is a notice where the estimated tax payments that the IRS or other taxing authority shows do not match what was reported on the tax filing.
As a preparer it is very difficult to verify the estimated tax payments that a taxpayer actually made. When these payments are different from what the IRS shows receiving, a notice is generated. It is the taxpayer’s responsibility to keep track of the estimated tax payments that were made as well as any credit carryforwards that may have occurred as well.
Another common cause of notices from the IRS is unreported income.
When a taxpayer receives a form 1099 or a W-2, the IRS is also receiving a separate copy of that same notice from the issuing organization. The taxpayer who fails to fully report all of their dividend or interest income on their tax return will receive a CP-2000 notice from the IRS for the unreported income. The bank or brokerage house that issued the 1099 also provided a copy to the IRS which is how the IRS knows that the income was not reported on the taxpayer’s return.
Whether it was by accident, carelessness or an intentional effort to not report this income, the IRS will compute the income taxes and interest — and possible penalties — for the unreported income. The penalties will depend on a number of circumstances including the magnitude of the unreported income and the number of days since the tax payment was due.
In a number of situations, taxpayers have received a notice for unreported stock or bond sales.
The taxpayer felt that they did not need to report these sales since they had no gain or even a loss on these investment sales. The gross proceeds of these sales are reported on form 1099-B. The IRS is not aware of the cost basis that corresponds with these sales, and since these sales went unreported the IRS automatically assumes a zero cost basis. So, regardless of whether there is a gain or loss, these capital sales must be reported on the tax return to avoid receiving a notice from the IRS.
Recently I had a client who received a notice from the IRS for unreported self-employment income. The taxpayer had failed to report one of several 1099-MISC forms that they received on their Schedule C. In this case the IRS totaled the gross self-employment income reported on Schedule C and compared this to the total of the 1099-MISC forms that had been submitted to the IRS. Since the total of these 1099-MISC forms was greater than the gross income reported on Schedule C,a notice was issued to the taxpayer. In this case the IRS was correct, and the taxpayer had to pay the tax and the interest charged.
Of course, if a taxpayer fails to file a tax return, then they will likely receive a non-filing notice from the respective taxing authority.
This is a further reason why it is so important to keep a copy of all returns that are filed. For those returns that are mailed to the taxing authority rather than electronic submission, best practice is to send the documentation with a return receipt to verify that the return was received.
Attention to detail and accurate record keeping will help reduce or eliminate receiving notices from the IRS and other taxing authorities.
And when you do receive a notice, it is important that you follow up and respond to the notice as ignoring the notice will lead to more significant problems including additional interest and penalty charges.
Paul Pahoresky is the owner of PRP & Associates. He can be reached at 440-974-1040 extension 214 or at paul@prpassoc.com. Consult your tax advisor for your specific situation for additional information and guidance on these topics.
