Taxpayer Rights

We are all taxpayers - unfortunately on a frequent and regular basis. The tendency is to feel that the cards are stacked in benefit of the federal and state tax agencies. However, there is a variety of techniques still left to the taxpayer.

TAXPAYER PENALIZES IRS FOR LATENESS

The IRS must send your refund within 45 days of the date the return was due, or from the date you file, whichever is later. If they don’t get the refund out within the 45 days they have to pay interest, even if they’re only one day late.

WHEN IT’S SAFE TO IGNORE YOUR APRIL 15 DEADLINE

You are legally required to file a tax return (or extension request) by April 15, whether you owe extra tax or not. However, since the civil penalty for late filing is generally a percentage of the tax still owed (5% per month, up to 25%), there’s no penalty unless you owe the government money. In addition, you have two years to file for your refund. Nevertheless, it is advisable to file on time for these reasons:

You get your refund faster
It may turn out that you miscalculated and actually owe taxes instead of having a refund coming. In that case, you will be charged penalties and interest for late filing
If you want to file an amended return later, you will have three years to do it in, instead of two
If the IRS concludes that you are willfully refusing to file a return, you may be hit with criminal penalties

NEVER LET THE IRS APPLY YOUR REFUND TO NEXT YEAR’S TAX BILL

If you file the short form, 1040A or 1040EZ, and claim a refund, the IRS will send you a check for that amount (provided you have not made any errors on your return). However, if you file the long form, 1040, you are offered an alternative to getting a check. The back of the form, down at the bottom, asks if you want to let the IRS keep your refund and apply it to your next year’s estimated tax bill.

Do not do it! Never, ever let the IRS hold on to your refund. Why not? Because it will not really help you in the long run - and it may end up hurting you.

Example: You fill out your return and discover that you had a $900 refund coming. You decide to let the IRS hold on to it and apply it to your next year’s estimated tax bill.

However, what if the IRS finds a math error on your return? Or your employer made a mistake on your wage statement? Or you forgot to include in your income the interest you earned on a bank account?

These things happen all the time. Any one of them would affect your tax return.

Let us suppose that the bottom line is this: After correcting your return, the IRS sends you a bill for an additional $400.

You already have $900 sitting in your estimated tax account. As far as you are concerned, the IRS can go ahead and take the $400 out of that. Right?

Wrong. You told the IRS to credit the $900 to your estimated tax account, and you’re stuck with that decision. In other words, you will have to come up with the extra $400 on your own.

What if the IRS audits a recent return and finds that you owe additional taxes plus interest? You still cannot touch your $900.

To make matters worse, the money you left in your estimated tax account does not even earn any interest.

If you really want to earmark your refund for your future tax bill, let the IRS send you your check. Then deposit the money in a savings account or invest it for a year. Do not let the IRS have it for nothing.

UNCLAIMED REFUNDS

The IRS is sitting on millions of dollars in unclaimed tax refunds. According to the IRS, the addresses listed under taxpayer’s Social Security numbers are no good. Those likely to be affected: Anyone who has moved during the year, a surviving spouse who filed a joint return; unmarried taxpayers who later marry and change their names. Tax returns are identified by Social Security number. Joint returns by the first Social Security number listed. If you marry and are listed second on the return, you disappear from the IRS files. If you move, send the IRS a formal change of address letter.

AMENDING OLD TAX RETURNS TO TAKE OVERLOOKED DEDUCTIONS

Filing an amended return generally increases the chance of an audit. In addition, if you are audited, there is no guarantee that the examination will not spread beyond the item you’ve claimed a refund for - there’s nothing to stop the IRS auditor from disallowing other deductions on your original return.

The limitation period for IRS audits runs out, in most cases, three years from the date the return was filed. When a taxpayer files an original return and then an amended return, the three years run from the date of filing the original return, not from the date the amended return was filed.

Say you forgot to deduct $5,000 worth of business expenses, but you do not want to run the risk of having your original return audited. Wait until just before April 15 of the third year to file an amended return claiming a refund. The IRS will not have time to audit any other items on your return. The worst thing that can happen is that the IRS will disallow your refund claim. However, if you file long before the three years are up, they can disallow the refund claim and audit your return.

If you do get a refund, the tax law requires the IRS to pay interest from “the date of overpayment.”

Your original return must have been complete. It cannot have been fraudulent. There is no limitation period on IRS audits if a fraudulent return is filed. The Tax Reform Act of 1984 gives the IRS an additional 60 days to audit a return, measured from the date it receives an amended tax return, if the amended return indicates money is owed.

The rule does not apply if the amended return reflects a refund.

WHEN YOUR STATE TAX REFUND IS TAXABLE INCOME - AND WHEN IT ISN’T

Most people do not have any trouble figuring out their income and listing it on their tax returns. Salaries, wages, dividends and interest income are usually fairly straightforward. However, reporting last year’s tax refunds as part of this year’s income can get confusing.

Here’s the good news: A federal income tax refund is always tax-free. In other words, you never have to include a federal refund as part of your gross income on your federal return.

State and local tax refunds are another matter, though. If you received a refund last spring or summer from your state or county government, you may have to list it as income on the front of your 1040 and pay tax on it.

Dig out copies of your state and federal income tax returns for last year. Look first at your state return. Did it call for a refund? If so, look next at your federal return and answer this all-important question: Did you itemize your deductions on Schedule A?

If you did not, then any state or local refund you received for last year is tax-free. You do not have to report it to the IRS on this year’s federal return.

If you did itemize, and if you included in your itemized deductions last year the amounts that were withheld from your paychecks for state and local taxes (plus all quarterly estimated payments you made to the state, and/or any additional taxes you had to pay when you filed your last year’s return), then you’ll have to report your state refund as part of your income on this year’s 1040.

What if, in the past, you inadvertently reported and paid taxes on state and local refunds when you really shouldn’t have? The advice is to file an amended return on Form 1040X for each year you want to change. The IRS will send you an additional refund.

Caution: The IRS now requires your revenue office to send information to the Service about state refunds. In other words, the IRS is cracking down on those people who receive refunds from their state governments but overlook reporting that money on their federal returns. Now the IRS knows who has received a refund and how much it came to.

UNDER WITHHOLDING WITHOUT IRS PENALTY

Salaried taxpayers may find at the end of the year that income taxes have been under withheld. Possible reasons: Both spouses work (the withholding tables sometimes give this result). Or investment income was higher than anticipated. What to do: Have the employer withhold a large amount out of the year’s last paychecks. The withholding is treated as though it occurred at an appropriate rate over the course of the year. Result: Penalties are avoided.

WHEN NOT TO TRUST A BILL YOU GET FROM THE IRS

When the IRS comes up with a deficiency as the result of an audit, the taxpayer is given a waiver to sign and mail back to the Service. According to the tax law, if the IRS does not demand payment of the tax bill 30 days after the waiver was executed, interest on the deficiency stops running.

The IRS has been charging some taxpayers interest right up to the date of billing, which is often several months after the waiver was signed and returned. This extra interest can be several hundred dollars more than you should pay.

Carefully check interest charges before paying the deficiency bill. Interest should be charged for the period beginning with the due date of the return and ending 30 days after you sign the waiver and mail it back to the IRS. Pay the tax you owe and the interest that you determine to be correct. Clearly, explain in an accompanying letter how you arrived at your figures, including a detailed computation of the correct interest. Note: Pay the deficiency bill within 10 days after you get it. If you do not, interest will start running again.

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Disclaimer
We do not offer legal advice. All information provided on this website is for informational purposes only and is not a substitute for proper legal advice. If you have legal questions, we recommend that you seek the advice of legal professionals.

Tax Disclaimer: To ensure compliance with IRS Rules, any U.S. federal tax advice provided in this communication is not intended or written to be used, and it cannot be used by the recipient or any other taxpayer (i) for the purpose of avoiding tax penalties that may be imposed on the recipient or any other taxpayer under the Internal Revenue Code, or (ii) in promoting, marketing or recommending to another party a partnership or other entity, investment plan, arrangement or other transaction addressed herein.