I don't think there is anything that more quickly strikes fear into even the bravest amongst us than a letter from the IRS. Marching to the sound of gunfire is one thing. This is another. I've been dealing with these letters for years and I still tense up when I see one. So what should you do if you get one? Here are some actions and things to consider:
1. Open the Letter
This may seem obvious, but you'd be surprised how many people fail to even open the letter. Everything with the IRS has a deadline. Miss the deadline and you'll lose rights and/or pay more to them.
2. Realize That No Human Has Ever Seen Your Tax Return
The vast majority of letters sent out by the IRS are done through computer matching. The computer compares the Social Security Number (SSAN) on the tax return and looks for other tax forms, like W-2s and 1099s, with the same Social Security Number and compares the amount reported on the other tax forms with the amount reported on the tax return. If they don't match, a letter goes out. And it always isn't about income reporting. In one case I'm familiar with, a married couple received a letter imposing a failure to file penalty even though they filed an extension and filed the extension and return on time. The letter was generated because the extension was filed naming the wife as the taxpayer using her SSAN and the husband as the spouse. The tax return was the opposite (husband as taxpayer with his SSAN). So, the computer decided an extension had not been filed and assessed a penalty.
3. The IRS Will Calculate Everything the Worst Possible Way
When the IRS calculates the tax they think you owe, they do it in the way that generates the most tax. All capital gains will be short-term. All assets will have a basis of $0. The primary residence exclusion will not apply. Another case that illustrates the point. Married couple sells a house in the National Capital Region for around $900,000. IRS computers generate a letter assessing a tax on the full $900,000 (that was a lot of tax due). In reality, the house had been purchased for more than $900,000 and the sale resulted in a loss and no tax was due on the sale.
4. In Actuality the IRS is Generally Reasonable
If you provide documentation to support your position and you did your taxes correctly, the IRS will back down. In the case of the failure to file penalty above the response included documentation of the extension filed under the other SSAN and the IRS agreed. In the case of the house sale we showed the worksheet where we calculated the loss and again, the IRS backed down.
Dealing with the IRS can be scary. Just remember to document your case and deal with them politely to get your best result. Or, give us a call. We can help.
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