Fearing The Taxman: When Not To Be Scared

Tax issues causes some folks to act in an irrational manner. True, the taxman shouldn’t be ignored. But feared? Nah.

Here’s my list of the top five things that taxpayers are irrationally afraid of – and shouldn’t be:

1, Being aggressive when it comes to deductions. You’re entitled to take deductions. C’mon, say it with me now: You’re entitled to take deductions. Taxpayers often fear that excessive deductions will raise eyebrows at the Service. That’s not true unless we’re talking really excessive as compared to your level of income – and even then, if you have the documentation to prove it, why would you care? If a deduction is legitimate (and you have the documentation to prove it), take it.

2, Audits. First, let’s just clear up a misconception: the random audit is not common. In fact, less than 2% of individual returns are audited. That includes those returns that include hot button tax issues or are otherwise on the IRS’ radar. Second, in most cases involving a deficiency, there is no full blown audit; in most instances, if an adjustment is necessary, you’ll be notified by IRS and asked to provide documentation (usually by mail). If an actual audit is necessary, you’ll have notice – and you don’t even have to be there (your attorney can often go in your place so long as he or she is empowered to talk to the IRS on your behalf). Do not live in fear of a tall man in a dark suit knocking on your door, unannounced, to perform an audit – that just doesn’t happen.

3, Not having enough money to pay your bill. I can’t tell you how many clients that I have that don’t file returns or reply to letters from the IRS solely based on the fear of what will happen if they can’t pay their tax bill in full. While it’s always better to pay on time, the world won’t end if you don’t. There are several ways to resolve this issue. If you can pay it eventually, you can work out a payment plan with the Service. If you can’t ever pay it, you can file an Offer in Compromise which would allow you to pay your bill in part, if the IRS is also convinced that you can’t ever pay the bill. Ignoring your tax bill shouldn’t be an option – the IRS can garnish your wages, levy your bank account or take other actions. Don’t be scared, be proactive.

4, Correspondence from the IRS. It’s not unusual for clients to drop piles of unopened mail from IRS on my desk during an appointment – yes, I’ve even had clients bring in Samsonite luggage full of Certified Mail, completely sealed. When you get a letter from IRS, take a deep breath and open the envelope. It’s rarely as bad as you think. Sometimes it’s an informational letter (advising you that you might need to file a certain form, etc.), sometimes it’s simply a notice of adjustment in which case you pay what you owe or work something out (see 3 above) and occasionally, you’ll receive a notice of deficiency (again, see 3 above). What’s really important to remember is that most IRS correspondence is time sensitive – there are deadlines. You can fix the problem if you address it. Ignoring it doesn’t make it go away and usually makes it worse.

5, Making a mistake. Everybody makes mistakes – didn’t your mother tell you that? There’s no need to panic. Making an honest mistake on your return can happen, and the IRS is usually pretty amenable to working something out when it happens. In fact, if you’re up to date on your taxes and make a small mistake that results in a deficiency, the IRS will often waive any associated penalty (always ask). If you’re just plain ol’ cheating, they’re not so nice. But mistakes? They happen. Get over it.

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14 thoughts on “Fearing The Taxman: When Not To Be Scared

  1. There is a big difference between aggressiveness with deductions and aggressiveness with reporting income. First, it may be helpful to better define “aggressive.” Aggressive, in our tax world, means that you have basis, underlining conviction for why something is claimable or recognized under a specific tax position (for example, for deductions — there is some basis for the position that it is ordinary & necessary – certainly two words that can leave some to the interpretive imagination, but imagination alone does not cut it!).

    However, failing to report income is a far, far more serious matter and imagination thus drops to less value than fairly strong substantiable basis for determining soemthing as non-taxable or non-reportable.

    Be aggressive — certainly! But remember, too aggressive in deductions can get you hot with interest and penalties; too aggressive with unreported income can get you far more serious consequences. As I often say, “pigs get fat and hogs get slaughtered!”

  2. Jim –
    I agree. When crafting my list, I was thinking about things that my clients are scared of and shouldn’t be… When it comes to income, there isn’t much gray. But when it comes to deductions, I have clients with receipts for things like business cards which they didn’t claim because they felt that promotional expenses were not properly deductible and were scared of an audit. I find myself saying over and over, “If it’s properly deductible, claim it!” I rarely find myself interpreting income (well, except as it applies to blogging since many bloggers don’t understand the income rules as they relate to forms 1099).

  3. Thanks for the list Kelly. I admit I’m one of those folks afraid of the tax audit. I tend to way under claim deductions because I don’t want to red flag anything. But this year, I’m doing a much better job of keeping all my receipts/documents well organized so I feel comfortable with taking the deductions owed to me.

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  7. Nice post. In regard to #3, the IRS offers a fast track installment plan for any taxpayer owing $10,000 or less. If you meet that debt criteria and are compliant you are pretty much guaranteed to have this option available to you. Normally, this program lets the taxpayer repay their debt in 60 months. Of course you still may be subject to interest and penalties over that time, but this is usually a great option if you can’t pay off your debt immediately.

    If you owe more than $10,000, you will need your installment plan to be approved by the IRS, which isn’t always a sure thing…

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