Chapter 2: Tax Compliance, the IRS, and Tax Authorities

Filing Requirement for (C) Corporations

All must file, regardless of taxable income

Filing Requirement for Estates and Trusts

Required to file if gross income exceeds $600

Filing Requirement for Individuals

Filing is determined by taxpayer’s filing status, age, and gross income

Tax Return Due Date for Individuals

The 15th day of the 4th month following the end of the tax year

Tax Return Due Date for C Corporations

Generally, the 15th day of the 4th month following the end of the tax year

Tax Return Due Date for Partnerships and S Corporations

The 15th day of the 3rd month following the end of the tax year

True or False: Due dates on a Saturday, Sunday, or holiday are extended to the next business day

True

True or False: Individuals, corporations, and partnerships are allowed to apply for automatic extensions (to file)

True

Statute of Limitations

The time in which the taxpayer can file an amended return or the IRS can assess a tax deficiency

When does the Statute of Limitations end?

Generally, 3 years from the later of either the day that the tax return was actually filed or the tax return’s original due date

How long is the Statute of Limitations if the taxpayer omits items of gross income that exceed 25% of the gross income?

6 years

How long is the Statute of Limitations if the taxpayer fails to file a return or for fraudulent returns?

Indefinitely

Why might a taxpayer’s return be selected for audit?

The IRS believes the tax return has a high probability

The IRS uses __________ to identify tax returns which might have an understated liability

Computer Programs

Computer Program: Discriminant Function (DIF) System

Scoring System

Computer Program: Document Perfection

Checks for math errors and more

Computer Program: Information Matching Programs

Compares tax return data with other IRS information

What is the most common IRS audit?

Correspondence Examinations

Which IRS audit is conducted by mail and is generally limited to 1 or 2 items on the return?

Correspondence Examinations

What is the second most common IRS audit?

Office Examinations

Which IRS audit is conducted in the local IRS office and tends to be broader in return?

Office Examinations

What is the least common IRS audit?

Field Examinations

Which IRS audit is conducted at the taxpayer’s place of business and can last months to years?

Field Examinations

Tax Law Sources: Primary Authorities

Official Sources of Tax Law

Tax Law Sources: Primary Authorities - Examples

• Statutory Code (e.g. Internal Revenue Code)

• Judicial Sources (the courts)

• Administrative sources (IRS pronouncements)

Tax Law Sources: Secondary Authorities

Unofficial tax authorities - they interpret/explain primary authorities

Tax Law Sources: Secondary Authorities - Examples

• Tax Services

• Tax Articles

What does the 16th amendment allow Congress to do?

Tax income directly, from whatever source derived, without apportionment across the states

The U.S. Constitution and the Internal Revenue Code are considered…

Statutory Authorities

What is the main statutory authority?

Internal Revenue Code

True or False: The Internal Revenue Code holds the same weight as tax treaties and Supreme Court rulings

True

Most other authorities (except __________) are interpretations of the Code

Treaties and the U.S. Constitution

Where does tax legislation start?

House Ways and Means Committee

Who enacts change in the Internal Revenue Code

Congress

Tax Treaties

Agreements negotiated between countries that describe the tax treatment of entities subject to tax in both countries

What are the courts tasked with?

The ultimate authority to interpret the Internal Revenue Code and settle disputes between taxpayers and the IRS

Who is the highest judicial authority that is on the same level with the Internal Revenue Code with regard to authority?

The Supreme Court

Who is the next level of judiciary authority after the Supreme Court?

The Court of Appeals

What are the 3 trial level courts?

US District Court, US Court of Federal Claims, and the US Tax Court

US District Courts

• Local courts with a possible jury trial

• Generalists

• Pay tax first

US Court of Federal Claims

• National Courts

• Generalists

• Pay tax first

• Appeals to the U.S. Circuit Court of Appeals for the Federal

US Tax Court

• National Court of Tax Experts

• Do not pay first

Regulations

The US Treasury Department’s official interpretation of the Internal Revenue Code

3 different forms of regulations

Final, temporary, and proposed

3 different purposes of regulations

Interpretative, procedural, and legislative

Revenue Rulings

Less authoritative weight, but they provide a much more detailed interpretation of the Code (e.g. application to a specific factual situation)

Revenue Procedures

Explain in great detail IRS practice and procedures in administering tax law

Letter Rulings

Less authoritative but more specific than revenue rulings and regulations

Administrative Sources include…

Regulations, Revenue Rulings/Revenue Procedures, and Letter Rulings

Examples of Secondary Tax Authorities

Tax Research Services, Newsletters, Law Reviews, Professional Journals, Quick Reference Sources, and Textbooks

Examples of statutes, rules, and codes of conduct that tax professionals are subject to

• AICPA Code of Professional Conduct

• AICPA Statement of Standards for Tax Services

• IRS’ Circular 30

• State Board of Accountancy Statutes

• Common law

AICPA Code of Professional Conduct

• Not specific to the tax practice

• Addresses the importance of a CPA maintaining independence from the client and being professional

• Limit the acceptance of contingent fees, preclude discreditable acts, and prevent false advertising and charging commissions

AICPA Statements on Standards for Tax Services

Recommends appropriate standards of practice for tax professionals

IRC Section 6694

Imposes a penalty on a tax practitioner for any position that is not supported by substantial authority

Substantial Authority

Suggests probability of the taxpayer’s position will be sustained upon audit is 35-40% or above

Circular 230

• Issued by the IRS

• Provides regulations governing tax practice and applies

• Discusses: who may practice before the IRS and what it means, duties and restrictions, sanctions and disciplinary proceedings for practitioners violating Circular 230, and miscellaneous provisions

Tax Avoidance

• Lawful and common

• Obtained by proper tax planning strategies

Timing

A tax planning strategy in which taxable income is deferred or accelerated

Income Shifting

A tax planning strategy in which income is transferred from a higher-tax-bracket individual or entity to a lower one

Conversion

A tax planning strategy in which income is shifted from high to low tax rate activities

Tax Evasion

Willful attempt to defraud the government

How much does the federal government lose in tax revenue each year due to tax evasion (estimated)?

$450 billion

Civil Penalties

• Most common type of penalties

• Generally in monetary form

• Imposed when tax practitioners or taxpayers violate tax statutes without reasonable cause

Criminal Penalties

• Much less common

• Often involved in tax evasion cases

• Higher penalties and can include prison sentences

What are the two scenarios in which a taxpayer and a tax practitioner would not be subject to an underpayment penalty?

• There is substantial authority that supports the tax return position

• There is a reasonable for the position and is disclosed on the taxpayer’s tax return