How to Form an S-Corporation

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How to Form an S-Corporation in Nevada

First you need to set up an LLC or Corporation with the Nevada Secretary of State.   You can set it up online at http://nvsos.gov/.  I recommend using a licensed attorney to help you set up your corporation or LLC because if it is not done properly you could lose the limited liability status of your company.

After forming your company you file form 2553 with the IRS to elect to be taxed as an S-Corporation.

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What is an S-Corporation? 

S corporations are corporations that elect to pass corporate income, losses, deductions and credit through to their shareholders for federal tax purposes. Shareholders of S corporations report the flow-through of income and losses on their personal tax returns and are assessed tax at their individual income tax rates. This allows S corporations to avoid double taxation on the corporate income. S corporations are responsible for tax on certain built-in gains and passive income.

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Requirements to be an S-Corporation?

To qualify for S corporation status, the corporation or LLC must meet the following requirements:

  • Be a domestic corporation or LLC
  • Have only allowable shareholders
    • including individuals, certain trust, and estates and
    • may not include partnerships, corporations or non-resident alien shareholders
  • Have no more than 100 shareholders
  • Have one class of stock
  • Not be an ineligible corporation i.e. certain financial institutions, insurance companies, and domestic international sales corporations.

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How to elect S-Corporation Status?

In order to become an S corporation, the corporation must submit Form 2553 Election by a Small Business Corporation (PDF) signed by all the shareholders.

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What is Self-Employment Tax?

Self-employment tax is a tax consisting of Social Security and Medicare taxes primarily for individuals who work for themselves. It is similar to the Social Security and Medicare taxes withheld from the pay of most wage earners.

You figure self-employment tax (SE tax) yourself using Schedule SE (Form 1040). Social Security and Medicare taxes of most wage earners are figured by their employers. Also you can deduct half of your SE tax in figuring your adjusted gross income. Wage earners cannot deduct Social Security and Medicare taxes.

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Who Must Pay Self-Employment Tax?

Generally, your net earnings from self-employment are subject to self-employment tax.  If you are self-employed as a sole proprietor or independent contractor, you generally use Schedule C or C-EZ to figure net earnings from self-employment.

If you have earnings subject to self-employment tax, use Schedule SE to figure your net earnings from self-employment.  Before you figure your net earnings, you generally need to figure your total earnings subject to self-employment tax.

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Who is an Employee?

The definition of employee for FICA (Federal Insurance Contributions Act), FUTA (Federal Unemployment Tax Act) and federal income tax withholding under the Internal Revenue Code include corporate officers. When corporate officers perform a service for the corporation and receive or are entitled to payments, those payments are considered wages.

The fact that an officer is also a shareholder does not change this requirement.  Such payments to the corporate officer are treated as wages. Courts have consistently held S corporation officers/shareholders who provide more than minor services to their corporation and receive, or are entitled to receive, compensation are subject to federal employment taxes.

If an officer does not perform any services or only performs minor services and is not entitled to compensation, the officer would not be considered an employee.

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Distributions, Dividends and Other Compensation as Wages

Courts have found shareholder-employees are subject to employment taxes even when shareholders take distributions, dividends or other forms of compensation instead of wages.

In 2001, in a Tax Court case against a Veterinary Clinic, the Tax Court ruled that an employer cannot avoid federal taxes by characterizing compensation paid to its sole director and shareholder as distributions of the corporation’s net income rather than wages.  Veterinary Surgical Consultants, P.C. vs. Commissioner, 117 T.C. 141 (2001)

The Sixth Circuit held that a shareholder-employee of a company used the company bank account for personal use.  As such, the Court ruled the shareholder was an employee and owed employment tax. Joly vs. Commissioner, 211 F.3d 1269 (6th Cir., 2000)

In yet another similar case, the Tax Court held that an accountant was taking dividends and performing duties for the company. The Tax Court ruled the dividends were actually wages, subject to employment taxes. Joseph M. Grey Public Accountant, P.C. vs. Commissioner, 119 T.C. 121 (2002)

If cash or property, or the right to receive either, did go to the shareholder, a salary amount must be determined and the level of salary must be reasonable and appropriate.

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Cort Arlint for Nevada Controller

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Partner in the law firm Cort Arlint is running for Nevada Controller in 2014.  Cort brings over 10 years public accounting experience as well as his work in the legal profession.  He took part auditing the State of Nevada during 2005-2007 while working for Kafoury and Amrstrong CPAs.  The unique combination of accounting and law is a perfect fit for the responsibilities of state controller because they are responsible for the state financials audits and paying the state’s bills.  For more information about Cort or to follow the campaign check out his political website at www.voteforcort.com

How to form a Limited Liability Company in Nevada

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What is an LLC?

In an LLC, owners have limited personal liability for the debts and actions of LLC, similar to a corporation. The benefits of pass-through taxation and flexibility, much like a partnership, make LLCs an attractive business structure.

An LLC is an entity created by state statute.   A Limited Liability Company (LLC) is a type of business structure. LLCs are popular because, similar to a corporation, owners have limited personal liability for the debts and actions of the LLC. Other features of LLCs are more like a partnership, providing management flexibility and the benefit of pass-through taxation.

Owners of an LLC are called members. Since most states do not restrict ownership, members may include individuals, corporations, other LLCs and foreign entities. There is no maximum number of members. Most states also permit “single member” LLCs, those having only one owner.

A few types of businesses generally cannot be LLCs, such as banks and insurance companies. Check your state’s requirements and the federal tax regulations for further information. There are special rules for foreign LLCs.

How are LLCs taxed? 

LLC are taxed differently based on their structure.  The federal government does not recognize an LLC as a classification for federal tax purposes. An LLC business entity must file a corporation, partnership or sole proprietorship tax return.

The IRS uses tax entity classification, which allows the LLC to be taxed as a corporation, partnership, or sole proprietor, depending on elections made by the LLC and the number of members. An LLC is always classified under federal law as one of these types of taxable entities.

Electing an Entity Classification

Because the federal government does not recognize LLCs for federal taxation purposes, each LLC is classified differently depending on the LLCs structure.  In some cases, the company can request how they would like to file the return. LLCs can only be classified as a corporation, partnership or sole proprietorship.  Form 8832 is needed to classify your LLC.

Forming a Limited Liability Company (LLC)

In order to form an LLC a person must file the articles of incorporation, initial list of managers and members and pay for a business license.   Also it is very important for an LLC to have an operating agreement.  The operating agreement is not file with the state it is a drafted document that details how the company is owned, the members duties and responsibilities, the taxation of the company and other operating issues with the company.

What are the articles of incorporation?

The articles of incorporation list the LLC’s name, registered agent and names of the LLC’s managers and members.

What is a registered agent? 

Persons wishing to file articles of organization in the State of Nevada must designate a person as a registered agent who resides or is located in this state.  Every registered agent must have a street address in the state of Nevada for the service of process, and may have a separate Nevada mailing address, such as a post office box, which may be different from the street address.

What name can my LLC have? 

The name must contain the words Limited-Liability Company, Limited Company or Limited or the abbreviations Ltd., L.L.C., LLC or LC .  The word “company” may also be abbreviated.  The name must be distinguishable from the name of a limited-liability company, limited partnership, limited-liability limited partnership, limited-liability partnership, business trust or corporation already on file in this office.

What is the initial list of manager or members? 

Each limited-liability company organized under Nevada law must, on or before the last day of the first month after the filing of its articles of organization, and annually thereafter, file its list of officers, directors and registered agent. The initial list fee is $125.00.

 

Tax Preparer, Enrolled Agent, CPA or Tax Attorney?

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When you need a tax professional who should you turn to?  Well, it depends on how complicated your taxes are and how much money is at stake.  Here is some information to guide you in your decision.

There are four different types of tax professionals 1) general preparer 2) enrolled agent 3) certified public accountant 4) tax attorney.   Some including myself might be more than one type for example I am a tax preparer, CPA and Tax Attorney.

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General Tax Preparer:

Anyone can open a business and prepare taxes for others.  All they have to do is apply for and receive a tax identification number from the IRS.  A preparer can have no experience and no education and still be preparing businesses for others.  HR Block, Liberty and other chain tax preparation firms fit into this category.  Often their staff only has a tax course taught by the firm before they are preparing taxes for clients.  The general tax preparers are best for simple returns because they are the least expensive and often competent enough to handle a simple return.   Common prices for a simple return prepared by a general tax preparer are $50-100 for a simple Federal Return.

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Enrolled Agent:

An enrolled agent is a person who has earned the privilege of practicing, that is, representing taxpayers, before the Internal Revenue Service. Enrolled agents, like attorneys and certified public accountants (CPAs), are unrestricted as to which taxpayers they can represent, what types of tax matters they can handle, and which IRS offices they can practice before.

An enrolled agent has taken a test with the IRS and completed continuing education classes on tax preparation.  Enrolled agents are not required to have an accounting degree.  Enrolled agents are generally less expensive than CPAs and Tax Attorneys.  A typical price for a simple return prepared by an enrolled agent is $75-150 for a simple Federal Return.

For more information on enrolled agents see the following IRS website:  http://www.irs.gov/taxpros/agents/article/0,,id=123388,00.html

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Certified Public Accountant (CPA):

CPAs have both an accounting degree and at least 2 years of work experience.  Certified public accountants are often chosen to prepare business tax returns because they can also perform financial statement reviews and compilations. Often businesses will see their CPA throughout the year for tax planning and financial statement reviews.  CPAs are more expensive than enrolled agents and general tax preparers because they have their licenses to maintain and also have demanding continuing education requirements.  People with complex returns or business returns often chose CPAs because their tax expertise makes up for their more expensive prices.  A typical CPA will charge $100-300 for a simple Federal Return.

The American Instititute of Certified Public Accountants is the largest CPA professional group for more information see the following AICPA website:

http://www.aicpa.org/Pages/Default.aspx

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Tax Attorney:

Tax Attorneys are the most expensive tax professionals.  They have graduated from law school and have passed a state bar exam.  A lot of the tax attorneys are also certified public accountants.  They rarely prepare individual tax returns.  Tax attorneys are used for IRS audits and complex tax transactions.  A typical tax attorney will bill by the hour and on average charges $200-400 per hour.

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Conclusion:

If you need the help of a tax professional use the one that can proficiently accomplish your needs with the lowest price.  If you have a simple tax return any experienced tax preparer should be able to prepare your return.   However, if you have more than a simple return or a business you should consider using a CPA.

Also, if you are paying more than the average prices listed above you might want to chose a different professional.  Well, I hope you found this post beneficial if you would like more information give me a call at 702-216-1011.  For other posts and tax related videos check out my blog at http://www.arlintlaw.com/blog.

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Is a Nevada Asset Protection Trust Right for You?

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Are you thinking about writing a Will or Trust? Just thinking about what happens after I die is a difficult subject for people to talk about. However, ensuring that loved ones are taken care of in the event in the event of your passing is  comforting for some. For others they are looking for something else, and in Nevada we can also protect your assets during your life.

October 1st, 1999 Nevada enacted legislation allowing a settlor to create a trust that is protected from the creditors of a settlor. This type of trust is referred to as a self-settled spendthrift trust or a Nevada Asset Protection Trust. There are several other states the currently have similar legislation, but Nevada has at least one advantage. Nevada has the shortest waiting period for protecting an asset.

Under NRS 166.170 A person may not bring an action with respect to a transfer of property to a spendthrift trust:

(a) If the person is a creditor when the transfer is made, unless the action is commenced within:

(1) Two years after the transfer is made; or

(2) Six months after the person discovers or reasonably should have discovered the transfer, whichever is later.

An example of this would be protecting your home. Once you have created the trust and have recorded a deed in the Trust’s name. The two year waiting period would commence. After two years from the date of the recording your home would be protected from creditor claims.

If you are interested in learning more about Nevada Asset Protection Trusts or have any questions feel free to give us a call schedule an appointment at (702) 216-1011.

 

**The information you obtain on this site is not intended as legal advice. You should consult an attorney for individual advice regarding your own specific information.

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How to Avoid an IRS Audit – Advice from a Tax Attorney

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An IRS audit is a review/examination of an organization’s or individual’s accounts and financial information to ensure information is being reported correctly, according to the tax laws, to verify the amount of tax reported is accurate.

Publication 556, Examination of Returns, Appeal Rights and Claims for Refund explains the audit process in more detail.

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How the IRS selects returns for Audit

  1. Selecting a return for audit does not always suggest that an error has been made. Returns are selected using a variety of methods, including:
  2. Random selection and computer screening – sometimes returns are selected based solely on a statistical formula.
  3. Document matching – when payor records, such as Forms W-2 or Form 1099, don’t match the information reported.
  4. Reported by Individual – Individuals can report a taxpayer for tax fraud.  If someone has knowledge of tax fraud they can report that fraud to the IRS and receive a reward if the taxpayer is found to have a tax deficiency.
  5. Related examinations – returns may be selected for audit when they involve issues or transactions with other taxpayers, such as business partners or investors, whose returns were selected for audit.

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Your Rights During an Audit

Don’t let the IRS scare you during an audit.  You have several rights as a taxpayer, the first step you should take is talk to an experienced tax attorney who can analyze your specific situation.  An experienced tax attorney can review your situation and at times even get you money back after an audit.  The auditor has to change your return to reflect the proper tax amount.  If your previous tax preparer missed deductions or failed to include your proper credits the auditor has to amend your tax return and give you a refund.

  • A right to professional and courteous treatment by IRS employees.
  • A right to privacy and confidentiality about tax matters.
  • A right to know why the IRS is asking for information, how the IRS will use it and what will happen if the requested information is not provided.
  • A right to representation, by oneself or an authorized representative.
  • A right to appeal disagreements, both within the IRS and before the courts.

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How to Avoid an IRS Audit

There is no sure way to avoid an IRS audit but there are strategies to help reduce the chances of being selected.

  1. Include all income reported to you on forms 1099.  The IRS receives copies of 1099’s sent by payors examples include:  banks, financial institutions, independent contractor payors, Casinos reporting gaming winnings and escrow agents reporting land sales.
  2. Double check social security numbers for dependents.  The IRS checks the social security numbers of dependents to make sure they are not claimed on another persons tax return.  An audit is guaranteed if more than one person is claiming the same dependent.
  3. Claiming unreasonable travel expenses, moving costs or charitable deductions.  The IRS uses statistical analysis to determine who they audit and they love to audit these accounts because often taxpayers exaggerate these expenses.   Don’t get greedy and stretch your travel and entertainment expenses, you are just increasing your chances of an audit.
  4. If you own a business try not to claim losses for several years in a row.  This is a red flag for the IRS because it usually means the taxpayer is either claiming a hobby is a business or is overestimating expenses.  Obviously sometimes businesses do operate at a loss especially in the first couple years of operating but if the business continues to lose money why is the taxpayer still running and business and where is he/she getting the money to pay their expenses.  If you have a business that continually loses money ask yourself whether or not it is truly a business or are you just trying to move hobby expenses into deductible tax expenses.
  5. Incorrect tax returns and calculation errors.  If the return has calculation errors then other information on the return is likely wrong.  To avoid calculation errors efile your tax return.  Computer programs help check for simple arithmetic errors that are likely to happen when preparing returns by hand.
  6. Use a CPA or Tax Attorney to prepare your taxes.  The IRS agents are influenced just like you or I would be with the quality of your tax preparer.  After an agent reviews your return they are more likely to audit an individual preparing his own taxes then a taxpayer who has their return professionally prepared by a tax attorney or CPA.

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What are the Chances my Return is Audited?

 

If you make under 100,000 you have less than a 1% chance of being selected for an IRS audit.  If you make between 100,000 and 200,000 your chances of an IRS audit are about 3% and if you make over a million your chances are about 10% of being audited.  Therefore, most taxpayers have a very slim chance of being audited, make sure to follow the simple rules above to help make sure you are not one of the unlucky taxpayers selected for an Audit.

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IRS Circular 230 Notice: To ensure compliance with requirements now imposed by the Internal Revenue Service of the U.S. Treasury Department, we are hereby informing you that any federal tax advice contained or perceived contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code; or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication. 

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Short Sale Information

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For more information schedule your free consultation with Derek Armstrong or one of the other attorneys at Arlint and Armstrong at (702) 216-1011.

Tax Issues Canadians Owning Rental Property in US

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RE:  Tax Issues Canadians Owning Rental Property in US
Monday, November 14, 2011

 

1.0 Summary.  As a Canadian owning rental property in Nevada you will have to file income taxes in the United States.  The type of return you file depends on the number of days you spend in the U.S. and your other connections to the U.S. compared to Canada.   Generally, the U.S. only taxes you on the source income from the rental and at the rates U.S. citizens are subject to.  You will be able to take a credit for the U.S. taxes paid on your Canadian tax return.  However, if you don’t file form 1040NR and make an election to treat the income as effectively related to a business then you will be taxed a flat rate of 30% on your gross rental income without a deduction for expenses.

 

1.1 Canadian Income Tax Rules.  You will have to claim the income received from your U.S. rental property on your Canadian tax return.  You must report all income from sources received inside and outside Canada for the year.   You can receive a foreign tax credit for taxes paid to the IRS.  For more information on reporting foreign income on your return see the CRA’s General Income Tax and Benefit Guide form 5000-G.  You must also complete Form T1248, Information About Your Residency Status (Schedule D), and attach it to your Canadian return.

 

1.2 United States Income Tax Rules.  The US income tax rules for Canadians depends on whether you qualify for the resident alien or non-resident alien status.  The IRS uses the substantial presence test to determine if you are a resident alien or a non-resident alien of the U.S. for tax purposes.

 

1.3 Substantial Presence Test.  This test uses the number of days you were in the U.S. during a three-year period (the current and the two previous years) to determine if you are a resident alien or a non-resident alien.  If you spend more than 30 days in the U.S. during the year the IRS might consider you a resident alien.  There are several factors and exceptions to the substantial presence test please seek tax advice for determining your status.  Even if the substantial presence test determines you are a resident alien you can file form 8840 with the IRS claiming you have more connections with Canada and therefore should not be considered a resident alien.

 

1.4 Resident Alien Status US Tax Consequences.  Resident aliens have to file a U.S. tax return to report income from all sources inside and outside the U.S. for the year.  You will file as a resident alien and report all income including your rental income on IRS form 1040.

 

1.5 Non-Resident Alien Status U.S. Income Tax Consequences.  Non-Resident Aliens only report U.S. source income on their U.S. income tax returns.  As a non-resident alien, you are subject to U.S. income tax on rental income you receive from U.S. real property.

 

1.6 Effectively Connected v. Not-Effectively Connected.  The IRS divides your income into two categories:  1) Effectively connected with a trade or business and 2) not effectively connected with a trade or business.  Rental income is not effectively connected with the conduct of a U.S. trade or business.  However, you can elect to treat rental income as income that is effectively connected with the conduct of a U.S. trade or business by attaching a letter to Form 1040NR stating that you are making the election.

 

1.7 Income Effectively Connected.   Income that is effectively connected with a trade or business in the U.S. (including income from the sale or exchange of U.S. real property) is taxed at the same rates that apply to U.S. citizens and residents.  If you have filed the election your U.S. rental income will be treated as income effectively connected.

 

1.8 Income Not Effectively Connected.  Income that is not effectively connected with a trade or business in the U.S., but is from U.S. sources (including interest, dividends, rents, and annuities) is taxed at 30% of gross income.  If you do not make the election to treat your rental property as effectively connected your property manager should withhold 30% of your gross income from your rental. 

 

1.9 Further Information.  For more information regarding income taxes for Canadians owning rental properties in the U.S.  see the following publications:

 

 

 

 

 

 

IRS Circular 230 Notice: To ensure compliance with requirements now imposed by the Internal Revenue Service of the U.S. Treasury Department, we are hereby informing you that any federal tax advice contained or perceived contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code; or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication. 


 

 

 

How to Report Suspected Tax Fraud Activity

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How to Report Suspected Tax Fraud Activity

Suspected tax fraud can be reported to the IRS using Form 3949-A, Information Referral. The completed form or a letter detailing the alleged fraudulent activity should be addressed to the Internal Revenue Service, Fresno, CA, 93888. The mailing should include specific information about who is being reported, the activity being reported, how the activity became known, when the alleged violation took place, the amount of money involved and any other information that might be helpful in an investigation. The identity of the person filing the report can be kept confidential.

Whistleblowers also may provide allegations of fraud to the IRS and may be eligible for a reward by filing Form 211, Application for Award for Original Information, and following the procedures outlined in Notice 2008-4, Claims Submitted to the IRS Whistleblower Office under Section 7623.

Top ten tax scams

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1.  Hiding Income Offshore

The IRS aggressively pursues taxpayers involved in abusive offshore transactions as well as the promoters, professionals and others who facilitate or enable these schemes. Taxpayers have tried to avoid or evade U.S. income tax by hiding income in offshore banks, brokerage accounts or through the use of nominee entities. Taxpayers also evade taxes by using offshore debit cards, credit cards, wire transfers, foreign trusts, employee-leasing schemes, private annuities or insurance plans.

In early February, the IRS announced a special voluntary disclosure initiative designed to bring offshore money back into the U.S. tax system and help people with undisclosed income from hidden offshore accounts get current with their taxes. The new voluntary disclosure initiative will be available through Aug. 31, 2011. The IRS decision to open a second special disclosure initiative follows continuing interest from taxpayers with foreign accounts. In response to numerous requests, information about this initiative is available on IRS.gov in eight different languages, including: Chinese, Farsi, German, Hindi, Korean, Russian, Spanish, and Vietnamese.

2.  Identity Theft and Phishing

Identity theft occurs when someone uses an unsuspecting individual’s name, Social Security number, credit card number or other personal information without permission to commit fraud or other crimes. For example, a criminal can use someone else’s information to run up bills on that person’s credit card, empty that person’s bank account or take out a loan in that person’s name. And when it comes to taxes, a criminal with someone else’s personal information can file a fraudulent tax return and collect a refund.

Phishing is one tactic used by scam artists to trick unsuspecting victims into revealing personal or financial information online. Phishing involves the use of phony e-mail or websites — even social media. A scammer may pose as an institution such as the IRS. IRS impersonation schemes flourish during tax season. Spyware, which can be loaded onto an unsuspecting taxpayer’s computer by opening an e-mail attachment or clicking on a link, is another tool identity thieves use to steal personal information.

Identity theft is a major problem that affects many people each year. That’s why it’s important that taxpayers protect their personal information. Anyone who believes his or her personal information has been stolen and used for tax purposes should immediately contact the IRS Identity Protection Specialized Unit at 1-800-908-4490. A suspicious e-mail or an “IRS” Web address that does not begin withhttp://www.irs.gov should be forwarded to the IRS at phishing@irs.gov.

3.  Return Preparer Fraud

While most return preparers are professionals who provide honest and excellent service to their clients, some make basic errors or engage in fraud and other illegal activities.

Dishonest return preparers can cause big trouble for taxpayers who fall victim to their ploys. These fraudsters derive benefit by skimming a portion of their clients’ refunds, charging inflated fees for return preparation services and attracting new clients by making false promises. Taxpayers should choose carefully when hiring a tax preparer. Federal courts have issued hundreds of injunctions ordering individuals to cease preparing returns, and the Department of Justice has pending complaints against dozens of others.

To increase confidence in the tax system and improve compliance with the tax law, the IRS is implementing a number of requirements for paid tax preparers, including registration with the IRS and a preparer tax identification number (PTIN), as well as competency tests and ongoing continuing professional education.

The new regulations require paid tax preparers (including attorneys, CPAs, and enrolled agents) to apply for a Preparer Tax Identification Number (PTIN) before preparing any federal tax returns in 2011.

Higher standards for the tax preparer community will result in greater compliance with tax laws, increase confidence in the tax system and ultimately lead to a better experience for taxpayers.

4.  Filing False or Misleading Forms

IRS personnel are seeing various instances in which scam artists file false or misleading returns to claim refunds to which they are not entitled. In one variation of this scheme, a taxpayer seeks a refund by fabricating an information return and falsely claiming the corresponding amount as withholding. Phony information returns, such as a Form 1099 Original Issue Discount (OID), which claims false withholding credits, are usually used to legitimize erroneous refund claims. One version of the scheme is based on the bogus theory that the federal government maintains secret accounts for its citizens and that taxpayers can gain access to funds in those accounts by issuing 1099-OID forms to their creditors, including the IRS.

The IRS continues to see instances in which people file false or fraudulent tax returns to try to obtain improper tax refunds. The IRS takes refund fraud seriously, has programs to aggressively combat it and stops the vast majority of incorrect refunds.

Because scammers often use information from family or friends in filing false or fraudulent returns, beware of requests for such data. Don’t fall prey to people who encourage you to claim deductions or credits you are not entitled to or willingly allow others to use your information to file false returns. If you are a party to such schemes, you could be liable for financial penalties or even face criminal prosecution.

5.  Frivolous Arguments

Promoters of frivolous schemes encourage people to make unreasonable and outlandish claims to avoid paying the taxes they owe. The IRS has a list of frivolous legal positions that taxpayers should avoid. These arguments are false and have been thrown out of court. While taxpayers have the right to contest their tax liabilities in court, no one has the right to disobey the law or IRS guidance.

6.  Nontaxable Social Security Benefits with Exaggerated Withholding Credit

The IRS has identified returns where taxpayers report nontaxable Social Security Benefits with excessive withholding. This tactic results in no income reported to the IRS on the tax return. Often both the withholding amount and the reported income are incorrect. Taxpayers should avoid making these mistakes. Filings of this type of return may result in a $5,000 penalty.

7.  Abuse of Charitable Organizations and Deductions

The IRS continues to observe the misuse of tax-exempt organizations. Abuse includes arrangements to improperly shield income or assets from taxation and attempts by donors to maintain control over donated assets or income from donated property. The IRS also continues to investigate various schemes involving the donation of non-cash assets including situations where several organizations claim the full value for both the receipt and distribution of the same non-cash contribution. Often these donations are highly overvalued or the organization receiving the donation promises that the donor can repurchase the items later at a price set by the donor. The Pension Protection Act of 2006 imposed increased penalties for inaccurate appraisals and set new definitions of qualified appraisals and qualified appraisers for taxpayers claiming charitable contributions.

8.  Abusive Retirement Plans

The IRS continues to find abuses in retirement plan arrangements, including Roth Individual Retirement Arrangements (IRAs). The IRS is looking for transactions that taxpayers use to avoid the limits on contributions to IRAs, as well as transactions that are not properly reported as early distributions. Taxpayers should be wary of advisers who encourage them to shift appreciated assets at less than fair market value into IRAs or companies owned by their IRAs to circumvent annual contribution limits. Other variations have included the use of limited liability companies to engage in activity that is considered prohibited.

9.  Disguised Corporate Ownership

Corporations and other entities are formed and operated in certain states for the purpose of disguising the ownership of the business or financial activity by means such as improperly using a third party to request an employer identification number.

Such entities can be used to facilitate underreporting of income, fictitious deductions, non-filing of tax returns, participating in listed transactions, money laundering, financial crimes and even terrorist financing. The IRS is working with state authorities to identify these entities and to bring the owners of these entities into compliance with the law.

10.  Zero Wages

Filing a phony wage-or-income-related informational return to replace a legitimate information return has been used as an illegal method to lower the amount of taxes owed. Typically, a Form 4852 (Substitute Form W-2) or a “corrected” Form 1099 is used as a way to improperly reduce taxable income to zero. The taxpayer may also submit a statement rebutting wages and taxes reported by a payer to the IRS.

Sometimes, fraudsters even include an explanation on their Form 4852 that cites statutory language on the definition of wages or may include some reference to a paying company that refuses to issue a corrected Form W-2 for fear of IRS retaliation. Taxpayers should resist any temptation to participate in any of the variations of this scheme. Filings of this type of return may result in a $5,000 penalty.

 

Information from the IRS Newswire