Tax Whistleblower Program
September 10, 2011
The Internal Revenue Service encourages taxpayers to turn in tax scofflaws by offering a program in which whistleblowers can receive up to 30% of the tax recovered. The downside is that the IRS takes relatively few cases and the average case takes six to seven years to resolve. In addition, although the Service tries to protect whistleblowers’ identity, there is no legal protection from retaliation by an employer.
Despite the drawbacks (including the fact that proceeds received by the whistleblower are taxable), last year the IRS accepted nearly 7,600 new claims in its small-awards program (less than $2 million in tax), the most in five years. Over 1,300 large-award claims have been accepted since 2006.
The IRS has great discretion over which cases they accept and in the amount ultimately awarded to a whistleblower. To be successful, claims must be timely and well-developed with “specific and credible” information obtained legally.
How to Turn In a Tax Cheat to the IRS
The Internal Revenue Service has two whistleblower programs offering rewards to people who expose tax fraud. The small-awards program involves cases with less than $2 million in tax and the award is up to 15% of the tax collected, although it is often far less. In the large-awards program, taxes, penalties and interest must total at least $2 million and the award can go as high as 30% of the money collected.
The U.S. has rewarded whistleblowers for turning in citizens or companies for defrauding government programs since the passage of the False Claims Act in 1863. The IRS has had its own whistleblower statutes since the introduction of the income tax in 1913, but Congress created the beefed-up large-awards program in 2006 and the IRS has since accepted 1,328 submissions involving nearly 10,000 alleged tax cheats. In fiscal 2010, the IRS accepted nearly 7,600 new claims in the small-awards program, the highest total in five years. It collected $464.7 million in extra tax but paid out just 4%, $18.7 million, which is lower than most years.
The IRS has tremendous discretion over what cases they accept and how much they pay out, although the large-award program allows whistleblowers to appeal the award to the U.S. Tax Court. The Service accepts relatively few cases and each case takes an average of six to seven years to resolve. In addition, unlike other U.S. whistleblower statutes, the IRS programs contain no protection against retaliation from an employer, although they do try to protect the whistleblowers’ identities.
The large-award program is based on taxes, penalties and interest, while the smaller cases are based on just taxes and penalties. In the small-award program, the award is entirely at the discretion of the IRS, meaning that they don’t have to pay anything at all. Large-program awards are 15% – 30% of the proceeds collected, but this amount can be reduced if the whistleblower was involved in the tax fraud.
Besides the difficulty in predicting an outcome, the length of time the cases take to resolve, and the lack of protection from retaliation, there are other drawbacks. Most whistleblowers use expert attorneys who often charge 20% – 40% of the gross amount collected, and whistleblower awards are fully taxable.
IRS Form 211 is used for both the large- and small-awards programs. To be accepted, the IRS wants a timely, well-developed claim with “specific and credible” information that was legally obtained in the normal course of business. Although the law does not prohibit convicted felons from collecting awards unless they were architects of the cheating, a whistleblower involved in tax fraud can be prosecuted separately.
Despite the obstacles, cases have been resolved in whistleblowers’ favor. In April 2011, the attorney for an unnamed retired accountant announced the first award in the large-case program: $4.5 million to a former employee of a large financial services firm. According to the attorney, the payment represented 22% of the tax collected. Although the proceeds were taxed, fortunately the attorney’s fees are deductible.
Your Financial Records – Household and IRS Rules
September 4, 2011
Creating a Financial Records Filing System
Having a well-organized filing system for your financial records makes tax preparation easier and less time-consuming, provides a better handle on your overall financial situation to help identify planning opportunities, and eases the burden on your loved ones in case of death or sudden incapacitation.
The first step is to determine how to organize your files. Records can be kept with manila folders and a metal filing cabinet, or electronically with various software packages. Whatever the method, documents should be divided into three main areas: 1.) “current” files, which are added to throughout the year; 2.) “dead” files, which need to be kept but do not need to be accessed often; and 3.) a safe deposit box for documents that are costly or difficult to replace, like wills.
There are seven general subject areas of financial records that should be kept in separate files: taxes, banking, investments, retirement plans, insurance policies, health care paperwork, and documents pertaining to your home.
For the tax files, there should be one file for this year’s return, which would include income statements and back up for any deductions. The prior year tax return should also be kept in this file, while previous returns can go in the “dead” storage area for a minimum of three years, although it is advisable to keep them for six to ten years.
Bank statements should have separate files for statements from savings and checking accounts. When you receive your 1099, you can check it against these statements and then discard them if the 1099 is correct.
Investment account monthly statements will go in another file. Save everything on the purchase, sale, and anything that happens in between for all investments.
There should be one file for each retirement account, including IRA, 401(k), and any employer-sponsored plans. Keep enrollment papers, statements, lists of beneficiary designations, and contact information.
Insurance documents should be kept in a separate file for each policy with policy numbers, issuing companies’ names, and agents’ names. Include information on the people covered and the beneficiaries.
The health care receipts and paperwork file should include complete contact information for personal physicians, medical history, and prescriptions. You should also keep a copy of your identification, who to call in an emergency, the name and phone number of your primary doctor, and your insurance card. This is also a good place for premium statements, health insurance explanations of benefits, doctor bills, hospital bills, prescription copies, immunization records, and records from any health screenings.
Home-related paperwork will include a file on the home’s purchase, including sales agreements, closing documents, and copies of mortgages and appraisals. Separate files should also be kept for an inventory of belongings and another for any home improvements.\
Difficult to replace documents should be kept in a safe deposit box, including birth and marriage certificates, any documents pertaining to adoption, citizenship, and divorce, proof of ownership of major possessions like the deed for your house and titles for cars, and a signed, original copy of your will.
By making a weekly habit of going through your paperwork and filing the documents appropriately, you will keep your financial house in order and save time and frustration in the future.
IRS Tax Record Retention Periods
General Rule:
You must keep records in sufficient detail to establish the amount of income, deductions, and credits shown in any tax or information return [Reg. § 31.6001-1(a)]. You must keep them available for IRS inspection for as long as the contents may become material in the administration of any tax law [Reg. § 31.6001-1(e)].
Decision Process for General Rule:
First ask, “Was the expenditure for purchase of a property?” If no, then keep documents for three open tax years. If yes, then keep documents for as long as asset is owned and for three open tax years after taxable disposition.
Three Year Rule:
Generally, all income taxes must be assessed within three years from the date the return was filed, or due, whichever is later [IRC §6501(a)].
Extension By Agreement: The statute of limitations can be extended by a written agreement between you and IRS [IRC §6501(c)(4)].
Six-Year-Rule: If you omit an amount in excess of 25 percent of gross income shown in the return, a six-year limitation period applies [IRC §6501(e)(1)(A)].
No Limitation Rule: If you fail to file a return, or file a fraudulent return, there is no statute of limitations [IRC §6501(e)(1) & (3)].
photo credit: Librarian Avenger
How Do “High Income” Individuals Pay No Tax?
June 6, 2011
The Internal Revenue Service recently released tax data from 2007.
In 2007 over 2.5 million Americans reported “adjusted gross incomes” of $200,000 or more. Over 10,000 of them paid zero federal income taxes. Many more high income taxpayers paid only minimal income taxes .
How did they do it? According to the IRS the items that produced the largest tax effects on high-income taxpayers were:
1. Interest paid (including mortgage interest and investment interest)
2. Taxes paid (Real Estate and State Income Taxes)
3. Charitible contributions
4. Casualty and theft losses
5. Partnership and “S corporation” losses
6. Tax-exempt interest
What sets these people apart frequently is “TAX PLANNING.” Higher income individuals utilize professionals to help them in tax planning. Middle income taxpayers may not have all the same opportunities, but can frequently save considerable taxes with some planning.
We cannot promise that tax planning will eliminate your tax entirely, but it will give you your best shot to save some money.
photo credit: kenteegardin
Automatic IRS Installment Agreements
May 28, 2011
Dear CPAS
I’m not able to pay the full amount due on my 2010 tax return, and would like to file an installment agreement. Does the IRS approve everyone for an installment agreement?
Brad B., Minneapolis, MN.
Dear Brad:
The IRS has created automatic and streamlined installment agreements. Taxpayers can have an installment agreement automatically, as long as the liability is paid within five years and they:
1. Owe less than $25,000
2. Have filed all their tax returns.
3. Have not had another installment agreement within the last five years.
4. Complete and sign the installment agreement form.
Hope this helps,
Joe
photo credit: Valerie Everett
Your primary residence in a divorce
October 10, 2009
photo credit: steakpinball
Joe,
My wife of seven years and I have been talking about divorce. While nothing is finalized yet, I am curious what we can do with our family home. Should we sell it now and split? Wait? Will the selling hurt us coming tax time?
Roland, White Bear Lake
Roland,
First, let me say I am sorry to hear you are going through such a difficult time. Divorce is not easy—not emotionally and not financially. While I hope you don’t need this advice, it is good you are preparing now.
I am not sure of the exact particulars of the situation—for instance having kids, time lived in home, and current marital status all play a role in determining the best course of action. That said, here is a hypothetical example I give many of my clients:
Let’s say Jack and Jill, a couple who has been married for five years, decide to separate. In the past, in a housing market long, long ago, it would have been easy for the couple to sell the home and divide the profit. If they divorced and filed as “single”, Under IRC §121 Jack and Jill could exclude up to $250,000 of gain on the sale of a principal residence if the ownership and use tests are met. To meet these tests, both Jack and Jill would need to 1) own and 2) use the home as their primary residence for two of the five years preceding the sale. However, if one of the spouses did not meet the test, they might be best off staying married until year end and file jointly. This way Jack and Jill could claim $500,000 so long as they both meet the use test and one of the two meets the ownership test.
Additionally, reduced exclusions are available to those couples who fail the two out of five year test due to health, employment, or marital changes—think divorce or lay off.
However, the plummeting real estate market has turned many homes into toxic assets. Many couples cannot afford to sell their homes at their current value. In that situation, Jack and Jill may decide to have Jill continue to live in the house, and pay Jack his portion when she sells or refinances the house. However, this is problematic in a couple respects.
First, with the current real estate market, it may be a considerable time before the home is sold at a favorable price, leaving Jack waiting for his potential payout. Second, Jill would need to sell the house within three years of the divorce for Jack to be eligible for the exclusion. This time frame can be extended to six years if the former spouse is granted use of the home by a divorce “instrument.”
Also, Roland, make sure you keep the lines of communication open with your former spouse. This will provide a chance to communicate a strategy that is most advantageous to both of you. Then make sure you find a tax professional to handle the situation should the divorce proceeding continue. Not only will they provide you the best strategy to minimize your taxes, they will also protect you so you don’t unwillingly underpay your taxes and be liable for penalties years from now. The rules governing divorce and deductions are complex and nuianced. Also, it may sound ideal to use the family CPA—they have done the family taxes for years afterall. However, in divorce proceedings it is best for each party to have his and her own accountants, as some of the decisions that could be advantageous to one client, might be disadvantageous to the other. You want to make sure your CPA goes to bat for you.
Hope this information helps. As always, contact me should you need further advice. Best of luck reaching an amicable solution.
Temporary Work Location (in Different State)
August 10, 2009
photo credit: Shenghung Lin
Hello Tax Advisor!
I’ve been offered a month-to-month contracting job in Iowa. Looks like I’ll need to rent an apartment for the time I’m down there. What’s the IRS say about being able to deduct these living expenses?? Herb B. (in wonderful) St. Paul
Hello Herb:
In general, taxpayers may deduct ordinary and necessary expenses paid or incurred in connection with the operation of a trade or business.
In contrast, the IRS disallows deductions for personal, living, or family expenses, including meals and travel costs. Transportation between a taxpayer’s residence and principal place of business are normally considered nondeductible personal expenses.
An exception applies, however, if the taxpayer is working away from home and the employment is temporary, as opposed to indefinite, in duration.
In that event, the taxpayer may deduct meals and travel expenses associated with the temporary position. Furthermore, a taxpayer is not treated as being temporarily away from home while pursuing employment that lasts longer than one year.
If the employment is initially expected to last for a year or less, but subsequently continues for longer than a year, the employment is treated as temporary until the sooner of when the taxpayer’s reasonable expectations change or one year elapses. Indefinite employment carries the prospect that the work will continue for an indeterminate and a substantially long period.
Regards Joe Rapacki
Reasonable Compensation for S Corporation Shareholders
August 5, 2009
photo credit: 16 Miles of String
“Reasonable Compensation” in regard to S Corporation shareholders has been a hot topic with the IRS. Recently there have been several court cases that support the position of the IRS that:
S Corporations must pay reasonable wages to a shareholder-employee who performs services to the corporation, before non-wage distributions may be made to the shareholder-employee. What this means is that S Corporation shareholders are required to pay payroll taxes on what should be considered as “reasonable compensation” for services.
What factors should be considered to determine ”reasonable compensation”?
A. Training and expertise
B. Duties and responsibilities
C. Payments to non-shareholder employees.
D. Time and effort devoted to the business.
E. What comparable businesses pay for similar services.
Please contact us for further guidance on this issue.
Mortgage Debt Forgiveness
July 29, 2009
photo credit: Mr Frosted
Hello,
Last year we had our home foreclosed. As a result, a significant part of the mortgage was forgiven. Could you please explain if this forgiven debt is taxable income to us? We were surprised to hear that it might be considered income?
Randy B. Maple Grove.
Dear Randy
Sorry to hear that. However as a result of a relatively new law, home owners who face foreclosure, or sell homes “short”: for less than they owe on the mortgage, will not be liable for taxes on the amount of debt that was forgiven. This change in the law is valid up through 2012, at which time it reverts back to the old law.
Regards
Joe Rapacki
Federal Health Care Reform update
July 25, 2009
photo credit: indigo_belle
July 25 update -
The House Ways and Means Committee has voted for $1 trillion in added revenue over the next ten years to pay for health care reform. Although the legislation is still developing, here are some of the revenue proposals that were in the Ways and Means July 17 recommendations:
A tax surcharge on individuals who earn more than $350,000 would start at 1% but increase up to 5.4% for those with modified adjusted gross incomes that exceed $1 million.
A non-compliance tax would be imposed on individuals that do not acquire acceptable health insurance coverage for themselves and their family. Each individual will be required to maintain a health insurance plan for themselves and their families, or be subject to an additional tax of 2.5% of adjusted gross income, effective after December 31, 2012.
A non-compliance tax for employers employers who do not provide to their employees health care coverage meeting certain minimum coverage requirements. Employers that elect to not provide health insurance coverage to employees will pay an additional payroll tax equal to 8% of gross wages. This would be a separate payroll tax from the one imposed on wages for social security purposes with no wage base limitation. A small business exception is provided for employers with payrolls less than $400,000.
A tax credit would be available to small employers for providing new health insurance coverage.
