Tax Watch: IRS aims for painless small-business audits

The Internal Revenue Service is seeking to improve the audit process for the nation’s small-business owners and self-employed individuals.

IRS teams working on the new initiative, called the Small Business/Self-Employed Exam Reengineering Project, reportedly is about to begin reaching out to members of small business and tax practitioner groups to get feedback and suggestions.

The project’s goal will be to reduce audit times, ensure fairness and encourage tax compliance.

During the next several months, teams will come up with many recommendations to streamline the current audit process.

Cite: IRS Release No. IR-2001-68

What’s S stand for in the name IRS?

A report issued by the Department of the Treasury’s inspector general for tax administration is reportedly giving Sen. Byron L. Dorgan, D-N.D., fits of sleeplessness. And the senator, who served as North Dakota’s tax commissioner before his election to Congress, is now drawing the Senate’s attention to that document.

What the report found is that the new IRS-designed taxpayer assistance centers – formerly known as IRS walk-in sites – provided incorrect or insufficient answers to undercover agents 73% of the time.

Seven agents were denied assistance. Some were treated rudely. And some waited almost two hours before receiving assistance.

“After 10 years of trying to put `service’ back in the IRS, it’s time to force the issue,” Mr. Dorgan said recently.

As head of the Senate Appropriations subcommittee on Treasury and general government, Mr. Dorgan has introduced a managers’ amendment to the fiscal 2002 Treasury spending bill.

It would provide $1 million to the inspector general’s office to repeat its experiment monthly and to report its findings to Congress each month. The full Appropriations Committee approved Mr. Dorgan’s amendment.

Cite: 4th Cir. 7/30/01

IRS versus IRS? Not quite yet

Discussions are under way in the House and the Senate on a new taxpayer-rights bill that would attempt to correct some of the “unintended consequences” of a 1998 IRS reform law, according to Nina Olson, the IRS’ national taxpayer advocate.

House Ways and Means Committee aides say lawmakers are considering IRS proposals for changes in a number of areas, including provisions to reduce frivolous abuses of the offers-in-compromise and collection due-process programs.

The aide says that legislation may emerge as soon as the fall.

Ms. Olson, speaking in Chicago at the annual meeting of the American Bar Association’s section on taxation, also said the Taxpayer Advocate Service is accepting some cases in which it assists taxpayers who have problems in an ongoing or open audit.

The office is proceeding carefully in the area of audits, accepting cases involving examinations where advocates can help clarify or narrow the issues, but not attempting to overrule determinations by other IRS functions, she says.

Free advice may be worth the price

Earlier this year, Verenda Smith, government affairs associate for the Federation of Tax Administrators, an association representing all state tax officials in the nation, testified on the tensions existing between private-sector tax preparers, software providers and tax administrators.

According to Ms. Smith, there is one general truth about tax agencies: In most situations, anybody can walk into a tax agency, “wait too long,” and then work with agency personnel to fill out their tax returns for free.

“We have always done everything in our power to help people fill out their tax forms accurately,” Ms. Smith said. “That’s not new.”

Then Ms. Smith noted another “truth”: Some determinations are a taxpayer’s own. A tax official – or a tax software program, for that matter – “is not going to ever tell you that you can do better for yourself by filing a Schedule C [form] and turning your small business into a regular business,” she said.

That is, regardless of whether the context is paper or electronic returns, there are special tax services the government has never offered, “and that’s what tax preparers excel at.”

“I think it’s important to make a distinction between what government has always done and will always do, and what tax services and tax preparers are able to offer,” Ms. Smith said.

“It’s the government’s No. 1 job to help people do their tax returns accurately. We’re not in the business of compiling records, sorting out what someone’s best business model is, looking for opportunities for you to change your mix of financial products.

“We’re not in the financial advice business and don’t intend to go there. I have a lot of respect for tax preparation and software, helping people pay taxes accurately.”

A statutory lien isn’t judicial

A U.S. bankruptcy court, denying a tax protester’s motion, has held that he couldn’t avoid federal tax liens in bankruptcy merely by characterizing them as “judicial liens” stemming from a 6th U.S. Circuit Court of Appeals decision in his case.

Walter Lawrence sought to use 11 U.S.C., Section 522(f)(1)(A), to avoid tax liens. He argued that an earlier decision had created a judicial lien.

U.S. Bankruptcy Judge Lewis M. Killian Jr. rejected Mr. Lawrence’s argument, holding that the tax liens were statutory liens that arose by operation of law and not by judicial action.

The court wrote that just because a statutory lien is recognized by a judgment doesn’t mean that it is a judicial lien.

Cite: Walter J. Lawrence v. United States, No. 99-1926 (6th Cir. Aug. 15, 2000), and Re: Walter J. Lawrence, Bankr. N.D. Fla.

Be careful when

you pay yourself

Taxpayers are barred from deducting the passive-management fees of their pass-through real estate rental companies from their related non-passive real estate management fees – at least for the purpose of reducing their taxable income. So said the 4th U.S. Circuit Court of Appeals in a recent ruling.

Section 469, the rules on passive-loss limitation, prohibits any taxpayer from deducting passive-activity losses from their non-passive gains.

It also bars the taxpayer from legally deducting passive-management fee expenses from their related non-passive management fee income solely to cut their taxable income.

According to the appeals court, nothing in the plain language of Section 469 suggests that an exception to Section 469(a)’s general prohibition exists where, as in the present case, the taxpayer essentially paid a management fee to himself.

Cite: Hillman v. IRS, No. 00-1915, 4th Cir. 7/30/01