The 25 Most Frequently Asked Questions
1. How long should I keep my taxpapers?
At least three years, but six years is preferable. The IRS has three years after you file a tax return to complete an audit. For example, if you filed on April 15, 2006, for 2005, keep those records until at least April 16, 2009. The IRS can audit you for up to six years if it suspects that you underreported your income by 25% or more. If the IRS suspects fraud, there is no time limit for an audit, although audits beyond six years are extremely rare. Keep records of purchases of real estate, stocks, and other investments for at least three years after the tax return reporting their sale was filed.
2. How long should I worry if I haven’t filed tax returns that I should have filed?
At least six years. The government has six years from the date the nonfiled return was due to criminally charge you with failing to file. There is no time limit, however, for assessing civil penalties for not filing. If you didn’t file for 1958, you still have an obligation if you owed taxes for that year. Not until you actually file a return does the normal audit time limit—three years—and collection time limit—ten years—start to run. Don’t overworry about a nonfiled return due more than six years ago if you haven’t heard from the IRS. The IRS usually doesn’t go after nonfilers after six years—unless the IRS began its investigation before the six years elapsed. After six years, the IRS transfers its computer files to tape for storage.
3. Do many people cheat on their taxes?
In a Yankelovich poll, one out of five Americans admitted to cheating the IRS. The IRS says that 15.5% of us don’t fully comply with the tax laws. Undoubtedly the cheating would be greater if wage earners did not have taxes withheld by their employers. Small business owners and self-employed people have the most opportunities to play fast and loose. Arguably, cheating by self-employed people approaches 100%. It may just be a question of degree—did you ever mail a personal letter with a business-bought stamp?
4. If I can’t pay my taxes, should I file my return anyway?
Yes. Filing saves you from the possibility of being criminally charged or, more likely, from being hit with a fine for failing to file or for filing late. Interest continues to build up until you pay. Of course, filing without paying will bring the IRS collector into your life, but she’ll be friendlier if she doesn’t have to hunt you down. The sooner you start filing, the better.
5. Can I get an extension to pay a tax without penalties and interest?
Probably not. Although you can get an extension to file your tax return until October 15, you still must pay by April 15 or the IRS can impose a penalty and charge interest. Try pleading hardship on IRS Form 1127 to get up to six months extra to pay. Few payment extensions are granted. Even then, only penalties, not interest, stop accruing. Form 1127 works best in requesting an extension to pay estate taxes.
6. My state had an amnesty period for nonfilers. Can I ever hope the IRS will have one?
Maybe—it is frequently kicked around in Congress. The IRS has always opposed tax amnesty legislation—which lets nonfilers come forward without being criminally prosecuted or civilly fined. The IRS’s reasoning is that after the amnesty period expires, significant numbers of people won’t file, expecting another amnesty. Based on the success of various states trying amnesty programs, I think the IRS is wrong.
7. Who has access to my IRS file?
Federal law makes IRS files private, not public records. The law has many exceptions, however. IRS files can be legally shared with other federal and state agencies. Most leakage comes as a result of sloppy state agencies that are granted access to IRS files. Furthermore, IRS employees have been caught snooping, and computer hackers have broken into government databases. While violation of the Privacy Act is a crime, rarely is anyone prosecuted for it, though IRS personnel can be fired if caught.
8. Is it true that the IRS pays rewards for turning in tax cheaters?
Twenty thousand rewards have been paid by the IRS since 1967. However, you don’t get the reward until the IRS collects from the cheater, which is far from a sure thing. The IRS pays about 8% of the first $100,000 it collects and 1% of the balance. However, in 2007, a new whistleblower law was enacted to increase rewards in cases where additional taxes and penalties collected exceed $2 million. In this case, the reward ranges from 15% to 30%. (IRC 7623.) Any reward you recover is taxable income. Identities of informers are kept secret, but tax cheats usually know who reported them—mostly ex-spouses or disgruntled business associates. In a recent year, the IRS paid out a paltry $1.5 million for tips, on $72 million collected. The IRS places low priority on investigating tips and paying rewards. Typically, you will never know what action, if any, is taken on your tip. If you want to try it, submit IRS Form 211. P.S. Rumor has it that turning someone in to the IRS can result in the informant being investigated.
9. Should I notify the IRS when I move?
Yes, unless you think you can hide from a tax bill. The IRS moves slower than you do, so I suppose it’s possible if you are constantly on the move. Otherwise, report your new address on IRS Form 8822. A post office change of address form may not work. Notifying the IRS assures that you will get audit letters and other vital notices, which often have strict time limits for replies.
10. What should I do if I don’t get my refund?
If you filed your tax return and it’s been eight weeks, call the IRS tax refund hotline at 800-829-4477, Monday–Friday, 7 a.m. to 11:30 p.m. Or, call the 24-hour assistance number at 800-829-1040 and request assistance from the taxpayer advocate. If you filed your return on or before April 15 and don’t receive your refund until after May 31, the IRS must pay you interest. If you never get a refund, it may have been intercepted to pay other state or federal taxes you owe; a defaulted student, SBA, or other federal government loan; delinquent child support; or a public benefit, such as HUD, VA, or Social Security overpayment. In these situations, you are supposed to be notified in writing, but don’t count on it.
11. What should I do if I encounter a dishonest IRS employee?
Report her if she lies or suggests you give her any favors. Dishonest employees are a rarity at the IRS. If you find one, however, call the chief inspector at 800-366-4484 orwrite to P.O. Box 589, Benjamin Franklin Station, Washington, DC 20044-0589. You can make your complaint anonymously or sign your name. Either way, don’t expect to hear the results of the investigation.
12. Can the IRS charge me interest if I was incorrectly sent a refund and the IRS now wants it back?
It depends on who was at fault. The Internal Revenue Manual states that “taxpayers should not be held liable for interest on … erroneous refunds if the IRS was clearly at fault … and the taxpayer is cooperative in repaying.” But if you caused the erroneous refund and now can’t repay it, the IRS can and will charge interest.
13. How legitimate are the claims by “tax experts” that you don’t have to pay income taxes?
Not at all. These con artists are very convincing, but if they were legit, I’d be first in line to stop paying taxes. Constitutional arguments against the tax laws are routinely dismissed by courts, and their proponents are fined or jailed. More sophisticated scams involve multiple family trusts, limited partnerships, and credit cards issued by offshore banks. While these schemes can confuse and slow down the IRS, they are bogus, period. Would a federal judge—whom you will appear before if you are prosecuted for tax evasion and whose salary comes from the federal government—ever uphold one of these schemes? Get serious.
14. Do auditors use computers? If so, does it make it harder to beat an audit?
Yes—they are used by all auditors to prepare their final reports. No—it doesn’t make it harder to beat an audit. Computers are just machines; it’s the person operating the computer who counts. Computers can’t make the judgments that are at the heart of the tax audit process.
15. What are my chances of getting through an audit without owing additional taxes?
A minority of audit victims make a clean getaway. The IRS audits half as many taxpayers today as in the 1990s, but the take per audit has increased. The IRS, thanks to its sophisticated computer selection process, only audits returns in which adjustments are almost a certainty. Realize the odds are against you and focus on limiting the damage from an audit.
16. I am being audited and the deadline for filing this year’s return is fast approaching. Should I file?
Not if you can help it. The danger in filing is that the auditor may expand the audit to include that return. Instead of filing, submit IRS Form 4868 by April 15 to obtain an automatic extension to file until October 15. If the audit is still alive on October 15, don’t file until it is completed. As long as you have paid all the taxes due, you won’t incur any penalties or interest for not meeting the deadline. If you owe additional taxes, send in your payment with your extension form. Auditors can’t make you file a return. If requested, simply say, “I am not yet ready to file.”
17. I am being audited and haven’t heard from the auditor for months. What can I do to get the audit over with?
Don’t be overanxious. IRS auditors are instructed to close examinations within 28 months of the date you filed your tax return. For example, if you filed your 2006 return on April 15, 2007, the IRS wants the audit completed by August 15, 2008. Legally the IRS has until April 14, 2009 (or longer in the case of fraud), but auditors are instructed to allow at least eight months for processing any audit appeals. If you haven’t heard from the auditor, it could mean any number of things. Maybe the auditor was ill, transferred, or terminated. Or your file may be lost in the system. When your case resurfaces, a new auditor is under a deadline to close it, which can work in your favor. In the best of all worlds, the three-year time limit for completing the audit may expire while your file is in IRS never-never land. So why not leave the sleeping dog alone?
18. The auditor or collector is impossible to get along with. What can I do?
Calm down and use some basic psychology. Put yourself in his shoes. Most IRS employees are 9-to-5 types just trying to do a job. Their pay is often too low to support a family in many urban areas. They deal with hostile and untruthful citizens all day long. Understandably, IRS morale is low. Would you like this kind of job? And even if an agent hates you, he doesn’t get paid bonuses for giving you a hard time. So, if you’ve exchanged harsh words through an audit or collection interview, instead of escalating the war, offer an olive branch. For instance, say, “I’m sorry we can’t get along. But let’s work it out, okay?” If conciliation fails, speak to his manager, whose job is to close cases and smooth things over with taxpayers. Still dissatisfied? Call the Taxpayer Advocate Service.
19. I have always deducted a certain expense. During a recent audit, the deduction was denied and now I know I was wrong all those other years. What should I do?
Let your conscience be your guide. If your audit is still open, the auditor can make adjustments in other open years—periods for which the three- or six-year time limit from the date you filed your return hasn’t yet expired. The auditor may ask you for copies of your tax returns for those years. You’re not legally obligated to provide them. If you don’t, she may request them from IRS record centers. But if she’s facing a deadline, she may just let it pass. Don’t worry about being audited on returns filed more than three years ago—unless you understated your tax liability by 25% or more or committed outright fraud. If you feel guilty, give the auditor copies of your tax returns for the open years and accept the disallowances. Or file amended tax returns and pay the additional taxes after the audit is completed.
20. Do I have to let the IRS into my home?
No. IRS employees can’t enter your home without an express invitation from a rightful occupant. The only exception is if the IRS has a court order, which is very rare. A field auditor may ask to come in to verify your home office deduction. You don’t have to let him in, but he may disallow the deduction. Your choice.
21. Can the IRS take my house?
Yes, but the Taxpayer Bill of Rights discourages the IRS from seizing primary residences (your vacation home or rental property is fair game). The IRS must obtain a court order to take your house, which you can contest. And you can request help to stop the seizure from the Taxpayer Advocate Service. The IRS doesn’t like publicity about taxpayers losing their homes, so a call to the newspaper might help. Typically, the IRS seizes homes only if you are a druglord or fugitive or just totally failed to communicate or cooperate with the IRS collectors. Your state homestead law, which might entitle you to keep all or some of the equity in your house if you were sued or filed for bankruptcy, won’t protect you from the IRS.
22. I recently got married. Am I responsible for my spouse’s past taxes?
Maybe. Your wages and property might be at risk of IRS seizure for your spouse’s tax bill, depending on the state where you live. In most states, property owned by one spouse before marriage remains that spouse’s separate property during marriage. Assets acquired during marriage, however, are generally considered joint property. When couples own property together, IRS problems can arise. The IRS can legally go after jointly owned assets to cover the tax debt of just one spouse. The IRS cannot, however, take the share of the non-debtor spouse. See a local attorney for help. Be particularly aware of these specific problem areas: Gifts. If a spouse without an IRS tax debt gives a spouse who has a tax debt an interest in property, the IRS can grab it. For example, Tiffany deeds her separate property boat to her husband, Bobbo, and herself as joint tenants. The IRS can seize the boat for Bobbo’s debt, although the IRS would have to pay the wife for her half interest in the boat once it was sold. Commingled property. If spouses deposit funds into a joint account and use that account to pay joint expenses, the funds are commingled. The IRS can take the entire account to satisfy the tax debt of one spouse. If the couple uses commingled funds to purchase property, and the IRS seizes it for only one spouse’s tax debt, the IRS must give the non-debtor spouse one-half of the sales proceeds. Wages. The IRS, quite unfairly, can take the wages of one spouse to pay for the sole tax debt of the other spouse. Some couples have divorced just to stop the IRS from taking the wife’s wages for taxes owed by the husband prior to marriage. They may continue to live together after the divorce, but the wife’s earnings are no longer within the IRS’s grasp.
23. How likely am I to get in trouble for tax fraud?
Not very. Fewer than 2% of us are ever investigated for tax fraud. And if you are, the likelihood of a civil fine or criminal charge is under 20%. The unofficial minimum amount of taxes owed before the IRS will file criminal fraud charges is over $70,000, in cases involving at least three years of fraud. To some extent, whether you are charged depends on your line of work. Most of those prosecuted for tax fraud work in organized crime or are public figures.
24. Can I make a deal with the IRS to pay less than my tax bill?
Maybe. Start by filing Form 656, an Offer in Compromise. The IRS will thoroughly investigate your finances before deciding if settling for less than what you owe is in the best interests of the government. About 15% of all offers are accepted by the IRS. You can greatly increase your chances of success by carefully following the IRS rules for offers and submitting all of the paperwork correctly.
25. If I win, can I recover my accountant’s and lawyer’s fees for fighting the IRS?
It’s possible, but difficult. Legally, if you win, you may get reimbursed for your costs. But the IRS seldom pays attorney’s fees, and when it does, it’s at a rate lower than what most tax lawyers charge. Absent special circumstances, the maximum attorneys’ fee allowed is $125 per hour. The judge makes the final determination of the reasonableness of the entire bill. And, to win, you must substantially prevail in court, the IRS must have taken an unreasonable position and you must have exhausted all procedural remedies within the IRS before going to court. Fees paid in an IRS administrative proceeding, such as an appeals hearing, can be recovered only if the IRS brought an unreasonable claim. So far, few taxpayers have gotten the IRS to admit it was wrong. No surprise.