Not Your Fathers Tax GuideFINALconverted

Not Your Father’s Tax Guide

Roth 401(k) Plans

Roth also offers a 401k plan which acts mostly like a regular 401k
plan, with the mandatory distributions required when you hit 70 ½.
BUT, the way you get around having to pay taxes on that money is to
have all of that rolled directly over into your Roth IRA.

Converting to a Roth Account

You can opt to convert any IRA or 401k into a Roth IRA at any
point in time. The kicker is that you will be required to pay tax on any
money that hasn’t been taxed yet and that you are converting.

The Ugly Face of Social Security Taxes

Depending on how much you earn, or have earned, and where that
money is coming from, your Social Security could be taxed. Nearly
40% of the population pays taxes on their Social Security benefits.
But there are ways to make sure that you are part of the 60% that
don’t pay taxes, without sacrificing the income.

One of the key ways to keep yourself in that sweet spot is to simply
keep your income below that threshold. Most retirees only have a
Social Security income, and therefore, won’t cross that threshold.
However, if the nontaxable interest, adjusted gross income, and half
of your Social Security benefits tally $25,000 (or $32k for a couple),
then you will have to pay income tax on at least 50% of your Social
Security benefits. It’s worse if you bring in $34k or more ($44k for
couples), as 85% of your benefits can be taxed. It’s appalling, but

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figures indicate that workers paid, collectively, nearly $20 billion in
taxes on their benefits last year alone. I don’t know about you, but
that’s egregious.

Most of this taxation, in my opinion, is due to the fact that folks
aren’t receiving the right tax advice. Knowing which sources of
income are going to make your benefits taxable is the name of the
game. Many small business owners don’t retire at 65 and continue to
receive wages even after signing up for social security. That will most
definitely push you over that threshold. Additionally, interest
received, pension payments, 401k plans (traditional), and IRA
withdrawals (traditional), will also lead to this taxation of your hard
earned retirement income. The trick, here, is to convert or shift your
additional sources of income into tax shelters and savings accounts,
like Roth products, which will not be counted as income and
therefore will not slide you over that threshold. HSA accounts are
also very nice for this, too.

Another very good strategy to keep your income below that
threshold is to draw down pretax 401k/IRA balances right before
you actually sign up for Social Security. This will give you higher
social security benefit payouts because of the delayed claiming (and
no taxes on the benefits). Some opt to just have the income taxes
withheld and quarterly taxes paid on their behalf, but the goal is to
not have to pay income taxes on the benefits at all.

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State Taxation Varies from State to State

Some states tax differently than others, and social security is no
exception. So, not only might you be taxed on the federal level, the
state is going to want a piece of that action, too. Currently 14 states
tax social security benefits: Colorado, Connecticut, Iowa, Kansas,
Minnesota, Missouri, Montana, Nebraska, New Mexico, New Jersey,
North Dakota, Rhode Island, Vermont and West Virginia.

Timing is Key

Everyone’s situation is going to vary depending on circumstances,
income, long term goals, and so forth, which is why it is crucial to see
a tax professional to set up a customized tax and retirement strategy.
However, in general, there are a few things that everyone, regardless
of situation, will benefit from doing. Currently, the maximum anyone
in the US will receive from social security is a little over $31k a year,
for a single person. Married, you’ll receive, maximum, $64k a year.
This is assuming the inflation rate of 1.7%.

You are eligible for social security benefits if you’ve worked at least
10 years, either in the workplace, or for yourself, and have been
paying in to Social Security. The government bases the amount of
your benefit based on two criteria: your highest salary points within
your life, and the age at which you have started to collect benefits.
Sure, you can start collecting at age 62, but your benefits will be lower
(by almost 30%) because you’ve started earlier. If you’ve got a birth
year of 1960 or later, guess what? Your retirement age isn’t 65

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anymore. It’s 67. The strategy, here, is to wait, if you can, until age 70
when you’ll really reap the benefits.

If you aren’t married by the time you come into retirement, you
might consider it (joking of course). But, the reason I say that is
married couples have many additional strategies that are available to
them that can boost the benefit payouts even further.

Your Nest Egg and You

Some may argue with me when I advise that retirees should take
withdrawals from their taxable accounts first, therefore benefitting
from the lowered capital gains taxes. The reason I urge this is that
doing so will allow the tax deferred investments to continue to grow
a little while longer, especially in the case of Roth products, or HSA
accounts. Taxable accounts that have been held for more than a year
can be taxed at a rate ranging from 0% to 23.8% depending on your
tax bracket.

The key is to minimize those taxes by using taxable accounts for
investments that are tax free, or that qualify for long term capital
gains rates. For example, wealth building products such as mutual
funds, exchange traded funds, or growth stocks. This would also
include bonds that are municipal bonds, or mini funds. Money
markets would also fall into this category. However, I would suggest
keeping at least two years’ worth of living expenses in something
such as this.

The next retirement income you should ‘tap’ is the tax deferred

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accounts (traditional 401k or IRA products). These are taxed at your
normal rate with a 10% penalty if you withdraw prior to being 59 ½.
The best thing to do, here, is to use these accounts along with the
others that are already taxed at the same regular rate (bonds, stocks,
real estate).

Last on the list of retirement income to withdraw from is the Roth
products (IRA and 401k). You can take money out of the Roth
products tax free, and penalty free, at any time. And as long as you’re
59 1/2, and have held the Roth product for at least 5 years, the
earnings are also tax free. The best thing about Roth products is that
you are not required by law to take a minimum distribution by the
time you turn 70 ½ like other retirement savings products. And it is
inheritable. If you don’t tap into the Roth products, you can name
beneficiaries who can inherit the product and take the distributions
tax free, too.

The Beauty of a Roth Product

The Roth IRA and Roth 401k are a thing of beauty because
withdrawals from them aren’t taxed. Because of this they make good
vehicles for investments. Use your Roth for that portion of your
retirement income that is devoted to aggressive stock funds, because
you’re not going to be forced to take withdrawals, which gives the
stock more time to perform.

Keep in mind, though, that when you turn 70 ½ you will be required
to take the RMD each year, which could push you into a higher tax

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bracket. If those accounts are allowed to grow too large those RMDs
most likely will send you into a new bracket. If you see that this is
going to be the case, you can do a number of things, but the bottom
line is to take withdrawals before you turn 70 ½ to keep that RMD
lower when it comes time. You can then reinvest that money
elsewhere, if you like. A good rule of thumb is to withdraw just
enough money to keep you in that 15% tax bracket. Then, any
additional expenses would be covered by the withdrawal of funds
from the taxable principle accounts first, then the Roth accounts, as a
withdrawal sequence.

Life Insurance (Investment Grade)

Annuities are insurance products whose main purpose is to produce
income. They tend to provide a steady stream of income for those
who are retiring and are very popular. A quick 101 summation of
how an annuity works is that you invest in the annuity, and then you
choose the date at which you want the payouts to start occurring.
You can determine whether you want the money to come every
month, quarterly, or yearly. What that payment will be is determined
largely by the length of time you pay into it, the amount, and if you
select a guaranteed payout (fixed annuity), or a payout that is
dependent on the performance of the annuity’s investments (variable
annuity). That’s the good news. But, like with everything, there are
also things to be wary of. Annuities can be bad for you because of
the high expenses often accrued in their maintenance.

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Deferred Annuities

Deferred annuities mean that your money will be invested for you
over a period of time until you start taking withdrawals when you
retire (though you can technically pull it out earlier).

With a deferred annuity, your money is invested for a period of time
until you are ready to begin taking withdrawals, typically in
retirement.

Immediate Annuities

Immediate annuities, like their name suggests, allows you to begin
receiving payments shortly after making your first investment
payments. This is a good strategy if you are approaching retirement.

The difference between the two is that the deferred annuity saves
money for a while, but the immediate pays out. Luckily, deferred
annuity accounts can almost always be converted to an immediate
annuity.

The deferred annuity accumulates money while the immediate
annuity pays out. Deferred annuities can also be converted into
immediate annuities when the owner wants to start collecting
payments.

Tax Benefits of Annuities

Money that you invest into either a deferred or immediate annuity
will grow tax deferred for whenever you decide to make a withdrawal.

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Then the amount you contributed, initially, to the annuity will not be
taxed, but whatever you earned will be taxed at whatever your tax
bracket is when you make the withdrawal.

One of the biggest pluses to having an annuity is that they will allow
you to put back a large amount of money and defer paying taxes on it
until much later. And, unlike the traditional IRA or 401k, there is not
a limit on how much you can put into them annually. This is a very
good vehicle for those who are close to retirement age and haven’t
begun saving for retirement as they should have. And the money that
you invest continues to compound without being taxed, which does
give it a big advantage over the other types of accounts that are
considered taxable investments.

Now, when you make a withdrawal, you can opt to pull it out in any
number of ways, but most retirees opt for the steady and regular
payout for budgeting purposes. This works very well in conjunction
with other sources of regularly occurring payouts.

The Disadvantages of Annuities

Annuities CAN be good vehicles for savings, but you have to be
extremely careful when selecting them. The hidden fees that are often
associated with the maintenance of these funds cuts into the profits.
One of those fees is a commission that is paid to the insurance
broker. Surrender charges are also a nice fiscal sock in the gut. If you
pull money out of the account within the first few years of buying it,
you’re going to pay a premium for the pleasure, often 20% of the

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amount you have in the actual annuity.

Variable annuities will often cost you more per year to maintain,
which can be up to 2 % of the amount you have in the account.
You’d be better off putting your money into a regular mutual fund
that charges only 1.5% a year to maintain. There may also be fees
associated with pulling out money prior to retirement. Each
brokerage has their own set of rules for their annuities, so research
them all thoroughly before committing yourself to them. Ideally, you
want to find an annuity that does not charge a sales commission or
any surrender charges. They are sometimes called direct-sold annuity
products. Some of the firms that currently offer these types of
annuities include Fidelity, Vanguard, TIAA-CREF.

Outside of the Box Retirement Strategies

Many retirees leave the US completely. Why? It’s cheaper to live
elsewhere. The US dollar still continues to have great strength in the
world economy and a larger and better standard of living can be had
outside of the US. There are all sorts of ex-pat retirement
communities throughout the world; one of the largest being in
Mexico, Costa Rico, Ecuador, and Thailand.

Senior Citizen Discounts

Join many of the retirement clubs, such as AARP and the like, for
discounts and supplemental medical insurances. It is a matter of
asking for discounts in all sorts of places. The local town hall will also
tell you what is available locally for retirees by way of tax breaks on

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real estate taxes, and many locales offer free transportation for
seniors, as well as low cost meals.
Final Thoughts
For those who are considered Baby Boomers, or Gen X’ers, the data
suggests that many are challenged with saving for retirement. Most
admit to having had to dip into retirement savings in order to pay for
living expenses or unforeseen emergencies. But that doesn’t mean
that retirement savings are an impossibility. There are a whole range
of options out there, and each of them come with their tax benefits,
namely lowering your overall taxable income. Going it alone is just
not a sane plan because it often takes someone who doesn’t have a
pony in the race to adequately assess your current situation and come
up with a good sound plan to move you from A to Z and be ready
for retirement when it does come your way.

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CHAPTER 18

When most people hear the phrase ‘estate planning’ the lights turn
off almost immediately. Why? Well, in my experience it’s because
there’s a misconception that estate planning is only for those that,
well, have an estate. As in a millionaire. In reality, estate plans are for
everyone, because what this plan does, in essence, is pave the way to
an easier transfer of wealth and assets after your death.
Without some sort of estate planning, in writing, your house,
retirement money, savings accounts, and other tangible assets can be

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tied up in the courts for years. Not to mention the in-fighting
between your survivors. “But I don’t have that much!” I can hear
most of you saying. Still, at the minimum you should have at least the
following: A will or a trust.

Wills, in short, are very easy to set up, but in the end, they will have
to have the distribution of the assets go through the courts. This
means they have to validate the will that you left, inventory the assets
you left behind, all debts and taxes will have to be paid first. Then,
and only then, do your heirs get what you intended.

Trusts, in short, allows a third party to hold on to assets for your
heirs. Stipulations can be arranged ahead of time as to when, how,
and who gets what. The plus, here, is that they stay out of the courts.
And, if it is set up correctly, won’t be subject to as many taxes.

Estate Taxes 101

The government asks that estate tax be paid on tangible assets such
as stocks, bonds, real estate, savings accounts, retirement savings, etc.
when you pass away and they are inherited by your heirs. Most of
these estate taxes are geared toward the uber rich, and you have to
have at least $5.43 million or more to end up getting taxed. The
recent stats indicate that only about 2 estates out of every thousand
will have to face some sort of estate taxation.

You should also consider setting up a durable power of attorney,

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which is just a written document that gives permission to someone to
make financial decisions in case you become incapacitated and can’t
make decisions. Power of attorney documents come in several
‘flavors’. Some are just for short term (like if you were going out of
the country for a while), and others are more permanent. It can be
made to be valid immediately, or for a fixed point, or set of
circumstances in the future.

Another question typically asked revolves around family owned
businesses. Only about 20 in the entire US owed any estate taxes over
the last year, so for most of you, you’ll be just fine. For the rest of the
world, estate planning is something that still needs to be done. But
most will put it off. Here are some of the top reasons why most of
my clients have put it off….maybe you can see some of your own
excuses here.

“It will cost me too much money”

Okay, first, not doing anything could cost your family (your heirs)
much more than it would if you were to just take care of the details
now. And, God forbid, what if something catastrophic happened
right here, right now, which left you unable to continue in any
capacity? All of your assets, including your bank accounts, could be
placed in a guardianship (which costs money). Not doing anything is
more expensive than doing something now (even something just to
get the ball rolling). Wills are a good first step, but as I’ll show you
later on in this chapter, there are better ways to make sure everyone
inherits what you intended.

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“Joseph, I don’t own enough to make an estate plan”

Do you want to see your hard earned money, lifetime of assets, and
so forth go to the courts and the government? Because that is exactly
what will happen if you don’t make a plan and it has to go into a
guardianship, then probate.

“I’m still young. I don’t need one yet, I’ll do that later”

Famous last words…literally. Anyone, anywhere, at any age can have
injury, illness, or accidents happen. I’m not trying to alarm you, just
help you to face the very real fact that you need to have a plan in
place. Today. Now.

“All of that is too confusing”

Well, that’s why you have me...or other professionals. Not doing
anything is worse. An experienced tax coach, or someone that
specializes in estate planning (tax attorney) is a good start.

So, as you can see, estate planning is necessary. It is not just for the
very wealthy, and in the end, it is for your family.

How to Avoid or Reduce Estate Taxes

In 2012 in their ultimate wisdom, the US Congress passed the
American Tax Relief Act. Up until then, estate taxes had a time limit
on them, and the tax rates, as well as the exclusions, varied often.
With this new act, though, there is no statute of limitations. Think of
it like this: there’s a looming drop off, where you’ll plunge hundreds

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designated.

The benefits to either the CRAT or the CRUT is that you can make
donations into them which will be partially tax deductible. How
much you can deduct is based on the type of trust you have, how
long it is for, and the income payments.

The other plus to this type of Trust is that you, or your heirs, can
receive an income stream, immediately. You can receive these funds
whenever you designate, either annually, bi-annually, etc. The IRS
requires that the disbursements be at least 5% of the total amount of
the trust’s assets, and no more than 50%.

Summing It All Up

Everyone has an estate. It might not be sprawling over hundreds of
acres and have its own zip code, but you do have assets. In the
strictest of terms, your ‘estate’ is anything that you own, like a car,
home, checking and savings accounts, investments, collections, etc.…
It doesn’t matter how large or small, or how valuable it is; it is still
considered your ‘estate’. And here’s the kicker…you can’t take it with
you when you die.

If you put things off and don’t settle it in your mind (and on paper in
a legal way), then the government will step in and decide who gets
what (if anything). And, if you do create a document specifying who
gets what, then you want it to be done in such a way as to make it the
easiest on your surviving heirs.

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Estate planning is nothing more than making a plan in advance,
much like you have been doing with your taxes, as well as your
business. It’s just part of the overall scope of good living. Good
estate planning has the following characteristics about it:

• It will list instructions that specifically designate which
valuables, as well as your values, are passed down to which
family member, or heir.

• A Will or Trust will specify what should be done for you and
with you if you are disabled and unable to make decisions for
yourself.

• The Will or Trust will name a guardian for your minor
children, or a financial manager of the funds until they are of
age.

• Many Wills and Trusts provide for family members who have
special needs and this will allow them to be taken care of
without disrupting the benefits they may be receiving from
the government.

• A good Trust will provide life insurance for after your death,
or disability income to cover lost income if you’re injured.
Long term care insurance is also there in case of the need for
a nursing home.

• Most documents can also have clauses written in that provide
for those in the family who aren’t really good with money and
might need protection from creditors, or a bad marriage.

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• A good Trust will make sure that the taxes are fully
minimized, and that there are low to no costs for legal fees, or
court costs.

Estate planning is not a one-off deal, either. You should review and
revise annually, because situations change, as do the tax laws. Estate
planning is not something you should wait to do until you are retired.
Starting as early as possible gives you time to make course corrections
and to create yet another avenue of generating wealth, as well as
reducing your tax burden.

Estate plans begin with your decision to do something, and a good
first step is to make a will or living trust. A Will does not keep you
out of the courts, nor does it cut red tape. It is cheaper to set up,
however, though the realized savings is negligible because in the end,
your estate, or your heirs, will pay taxes and court fees before they
see a dime of what you’ve left them.

A Revocable Living Trust is a better way to go because it avoids all of
those hassles from the beginning. You will pay some money up front,
as opposed to the fee for the Will being made, but it allows you more
flexibility and it can even outlive you and continue on, even after
your heirs have been given a payout. You can specify details about
who will get what amount, and when. For example, you can have one
child receive his money when he is age 25, while you can make the
less responsible child receive their money when they are 30. You can
make provisions to the trust that says that the oldest child must not
marry someone with the last name of Johnson (it can be that picky).

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Considering that it will keep the courts and the government out of
what should be a family matter, the Living Trust is what most people
consider to be the entity of choice when it comes to estate planning.
Planning your estate means that you have prepared in advance and
have the peace of mind of knowing that your family will be
protected, and that the money and assets you’ve worked hard for
over the years will be treated with respect once you are gone. Estate
planning is one of the most thoughtful and caring things a person can
do for themselves, and more importantly, their family.

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CHAPTER 19

Audits. The mere mention of the word can cause grown men and
women to shake in their collective boots. But, if you find yourself
audited by the IRS, following some very simple rules will get you
through it. And of course, it should be mentioned, that if you’ll just
follow some fireproofing beforehand, you’ll enjoy a long business life
without a single audit. For the purpose of this chapter, I’m going to
assume you are facing an audit, and will offer you a way to make
yourself and your business as flame retardant as possible.

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Red Flags to the IRS

You’re being audited. Take a few hours to freak out about it, get it
out of your system, then come back to this book. The first thing you
need to do, after taking a deep breath, is prepare for their visit ahead
of time. In order to do that, you need to know what it is, specifically,
they will be looking for.

You should know that the auditor when he/she arrives will not only
be looking at your business, but at YOU. They will want to see how
you line up with what you’ve been claiming, a sort of ‘economic
reality assessment’. For example, they will scrutinize how your
lifestyle squares with the amount of money you’ve claimed you make.
They’ll look at your home, your car, office, equipment, clubs and
organizations you are a part of…everything. If you live like a
Kardashian, but claim to be making the salary of a school teacher,
then you are going to be in trouble.

Are you a cash only business? This is a red flag to an auditor because
they know you can underreport these sorts of things. This is called
‘skimming’ in IRS terms, and they do not…read my lips…do NOT
approve.

A common deduction that they will get you on is if you claim your
one and only car as a business deduction. This is one of the more
popular problem areas for small businesses, so auditors will look at
that pretty early on. It’s hard to convince them that you use your one
and only car strictly for business purposes. The way to get around

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this is to keep a mileage log.

The other area they will scrutinize very closely (because so many
people do this) is claiming personal expenses as business expenses.
This includes things like meals, trips, entertainment. You will need to
prove to the IRS that they were valid trips, that your spouse’s
presence on the trip was required, and that the people you met with
were business related.

Lastly, know when to obtain representation. It is far better to let your
tax person handle the audit for you when there is more than $10,000
on the docket. If there’s a lot of money that the auditor feels you’ve
been hiding, they will escalate the audit to a place you don’t want it to
go: the IRS criminal investigation team. For most business owners, it
never goes that far. The IRS accounts for cluelessness and ignorance,
and in most instances will just slap you with the additional taxes you
should have paid, plus interest and a 20% penalty fee.

Writing off personal expenses as business expenses is also very
common, and if they are small, for example you wrote off a long
distance call that added up to three bucks, the IRS won’t fool with it.
BUT, if you claimed $2000 in deductions for ‘repair’ on your
business, when in reality it was your home (even if you have a home
office), then the IRS may have something more to say about it. In
IRS ‘speak’ they will ‘disallow’ that deduction and you’d be on the
hook for the taxes for that item.

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The other areas that they will focus on is your use of subcontractors
and employees. Where S-Corps are concerned, especially, this area
has become increasingly muddy. The latest on this is that if you have
someone that is a subcontractor, but they work for you and only you,
then they are in effect your employee. If, however, they accept work
from other people, as well as you, then they are subcontractors and
you’d just send them the 1099 at tax time.

Payroll taxes are a MUST do and you MUST not miss the deadlines
to pay them. You can opt to pay them quarterly or annually, but they
must be paid on time.

Enrolled Agents: The Care and Feeding Thereof

Enrolled agents? What’s that? That’s one of the first questions to be
asked when the term is mentioned. Suffice it to say…you will love
them. They are certified tax experts. They are federally licensed,
specializing in taxation and are trained to represent business owners
to the IRS.

The ‘enrolled’ part of the title means they are licensed by the US
government, and only enrolled agents, CPAs, or tax attorneys, can
legally stand in for you in a meeting with the IRS. Enrolled agents are
licensed by passing a very stringent exam (like a bar exam almost),
that covers all of the various categories involved with the tax codes.
OR, some enrolled agents are actual former IRS employees that were
once auditors. Everyone that is accepted as an enrolled agent has to
pass a massive background check.

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Why You Might Want an Enrolled Agent

Anyone that has tax reporting requirements can retain the services of
an enrolled agent. They are expressly licensed by the federal
government to fully represent you in an administrative capacity. As of
1998 the IRS sanctioned the use of federally authorized agents as a
client’s proxy in dealing with tax issues. This is only for federal taxes,
and not on the state level, although some states do allow the agent to
represent at the state level too (varies by state).

These enrolled agents MUST continue their training even after they
pass their certification examination because, as you well know, the tax
codes and laws change all of the time. Agents not only have to take
the training, but they have to report that training to the IRS in order
to keep their license. An enrolled agent is different from a regular tax
professional in that they are given unlimited representation rights
with the IRS, and they must have specialized in tax laws and tax
codes. Not all CPAs or attorneys do. Enrolled agents are licensed and
accredited through their national organization, called NAEA. If you
find that you need an enrolled agent, and your CPA won’t do, then
you’ll want to make SURE that the enrolled agent is a member.
Members have to abide by a code of conduct and ethics, and are
monitored.

Getting Audited: First Steps

Believe it or not, there are many different types of audits. Some
audits are conducted by mail, while others involve an actual IRS

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auditor coming to a local IRS office to meet with you. If you
experience a correspondence audit, then everything will be done
through the mail. The IRS will ask you specific questions, and they’ll
want specific and documented answers. Mostly these will be to ask
questions about deductions that you’ve made.

Office, in person, audits are more involved. The auditor will want
receipts, documents, and any other proof to back up your claims or
deductions. Field audits are where the IRS auditor comes to your
business or home to basically go through your receipts with you, and
to determine what additional taxes you owe, if any. Just so you
know…they will pretty much always find something.

Gather Your Documentation

Communication is key. Ask the IRS agent ahead of time what sorts
of documents they will want to see, so that you can have them ready.
The goal, here, is to make everything very streamlined and efficient
when they visit because if they have to go searching through stacks of
papers, they may find something else that raises concern. Organize
everything according to what they’ve requested, and don’t give them
anything MORE than they’ve requested.

What if you can’t find the actual documents they are asking for?
Reconstruct as best you can using bank statements, appointment
books, or cancelled checks. The goal is to convince the IRS that you
did correctly report all of your income, and were entitled to the
deductions and credits that you did claim.

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Even if you are highly organized and ready for the IRS, it is
statistically to your advantage to postpone at least once when setting
a date. Simply, and politely, request more time to gather your
documents.

Though they will come to your home or business, it is best if you
avoid ‘hosting’ the IRS. If there is going to be a field audit, or an
office audit, then have your CPA meet with them at the accountant’s
office. Any good CPA will tell you this, certainly I have offered this
advice in the past to my clients: you can reconstruct records if you
are missing receipts or other documents. Don’t panic.

I also advise my clients who are going through an audit, aside from
‘don’t panic’, is to manage their expectations as to the outcome.
Odds are they are going to find something, even if it’s a little thing.
The worst thing you can do is try to haggle with the IRS. They do not
have a sense of humor.

The IRS auditor will typically be on the lookout for employees that
you aren’t paying taxes on because you are claiming that they are
independent laborers, or are just employees but haven’t been
reported. The auditor will look at the logbooks, if you have them, of
hours worked and hours paid for. This is where keeping paystubs, or
having a transaction record electronically is crucial. The bottom line
is, you must be able to prove everything you are claiming.

If you go it alone with the auditor, and don’t have your CPA there
with you, then it is in your best interest to only speak when spoken

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to. You don’t want to give the auditor more information than they
need, or are entitled to. The tendency is, because you are nervous,
and slightly intimidated even, to run off at the mouth. And for Pete’s
sake, don’t give the auditor other years’ tax returns unless they have
been formally requested. If they don’t pertain to the year you are
being audited for….then you are under no obligation to produce
them.

The Taxpayers Bill of Rights

I’m not making it up. There is one: a bill of rights for taxpayers. It is
an IRS publication, but it does offer a lot of very good information
about the tax law and how to present your documents to the auditor.

Some of the highlights of the document are statements that let you
know what to do if you feel that the auditor is acting unethically, or
how to request a recess to consult with a tax professional. Time is
also on your side, the publication states. The IRS has three years to
audit you a tax return, and after that, it’s off the table. The exception
to that is if they discover tax fraud or a large and significant
underreporting.

During the Audit

Meeting at your CPAs office, or the IRS office in town, or even at a
neutral location is preferable. You can stipulate where you meet.
Additionally, if you are going it alone, don’t be tempted to ‘fudge’ the
truth. Okay…in other words DON’T LIE. Don’t even consider it.
Don’t play dumb, or ignorant, or cry, gnash your teeth, or get

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emotional at all. It will go against you if you do.

If at any time you don’t have documentation they need, ask for a
recess. They have to give you time to gather the documents. And, if
at any time you feel that things are not going well, you can ask for a
recess to ‘consult with a tax professional’. Most IRS agents are
actually decent people, and they know that you are in a stressful
situation. They really aren’t out to ‘get you’, so if you truly need
additional time, they will graciously agree.

The auditor will most likely want to see the following:

• Verification of your gross income (and that it matches your
return)

• Explanations for unexplained credits you took on your
returns

• Tax classification that you’ve opted for
• Document review that supports the deductions you’ve

claimed
• Sales tax accounts, if any exist
• Capital asset invoices, depreciation schedules, purchase

invoices, and so forth
• A record of annual or quarterly tax payments

There may be more that they will ask for, but these are the typical
requests.

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Getting Audited: The Appeal Process

Okay. So you’ve jumped through all of the hoops, have done all you
can do, and the result is disastrous. What can you do? The
government gives you the option of an appeal process if you feel that
the results aren’t right, or if you don’t understand why the new tax
bill is what it is. First you can appeal with the IRS directly, and even
speak with the agent that handled your case, if you’d like. OR, you
can take it to tax court. If you can’t afford to pay it all at once, there
are payment options and payment plans that are usually offered to
the taxpayer.

Tax Court

Keep in mind that while you’re waiting for a court date, the interest
on the outstanding balance continues to grow. And, going to tax
court can be a doubled edged sword because the IRS may uncover
even more issues that the original agent didn’t spot the first time. So
you could potentially be slapped with yet another audit.

When you receive your audit report, there will be a short section that
tells you how you can appeal the results. You can also find this
information online in a number of places. They all say the same thing.
Requesting an ‘audit reconsideration’ is always a gamble. The audit
reconsideration is the first step before tax court, and it is a more
informal process that allows for some of the issues, if not all of them,
to be resolved without going to court.

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Audit reconsiderations will only be accepted if you have new
information that would potentially lower the amount of taxes that
you owe, or you were denied tax credits that you feel you did deserve
to claim (and you can prove it). Sometimes the IRS will create a tax
return for you, claiming that you did not file one, when in essence
you did (but perhaps filed it late). In this instance, you would be
granted an audit reconsideration. Also, keep in mind that an audit
reconsideration is simply you asking the IRS to go back over the new
information or evidence and make certain they still feel that their
findings are just. Sometimes they will rule in your favor, and
sometimes not.

You wouldn’t want to even bother asking for an Audit
Reconsideration if you have already begun making payments, the US
tax court has already made a ruling, or ‘Final Partnership Item
Adjustments’ were made.

To File an Audit Reconsideration Request

Your best bet is to have a tax professional handle it, but if you are the
independent type, here’s the overall process. First, file a tax return if
you’ve haven’t done one. Write to the proper IRS office to let them
know of the changes you’ve made and that you’d like them to
consider. Send with this letter any documentation that can act as
evidence of your request (this is usually done with Form 4549). Make
sure all of your contact information is easy to find, easy to read, with
multiple ways to reach you. After this, it is a waiting game. It could
take a while, so be patient. They will either let you know they

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received everything and that they will get back to you, or they will
request more documentation.

Tax Audits By the Numbers

Because I love numbers, and who doesn’t…I thought you’d like to
see some encouraging numbers where tax audits are concerned. For
example, the current IRS audit rate is lower than it has been in years.
Over the last few years the rate of audits has fallen to just one out of
every 100 returns being audited at all. That’s the lowest since 2005, in
case you didn’t know. It still seems like a lot when you take the entire
population of the US, which equates to about 1.2 million people
being audited. BUT, most of those who were audited, made over
$200,000. What this indicates is that the IRS tends to scrutinize
returns in a higher AGI class than the lower AGI class.

Many of these falling audit rates are simple numbers of attrition. The
IRS is woefully understaffed and underfunded, which means that
there is only so many auditors to go around. Corporations with less
than $10 million in assets just weren’t worth going after. Only 1.2%
of those filing a Schedule C or E were audited.

Field audits and in-office, or in-home audits are going by the wayside
these days. If they are coming to you, then they are fairly sure that it
will be worth their while. You’d be well advised to not face them
alone in this situation. The most common audit these days is more of
a correction audit. They are assuming that you did your math
incorrectly, and they will ask you, rather politely, to go over your

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figures again as they suspect certain areas of being incorrect. You
would then file an amended return, and be good to go.

Of course, knowing what is typical for someone in your industry to
be making, or what deductions are common for your business type is
key to avoiding an audit. Higher than average expenses, or having a
very low income for your industry, or having major losses in a
business that typically has little to no overhead, is a very large, very
bold, red flag.

You Can Survive an Audit

Most audits these days are very low key and fairly low stress if
handled correctly. Working in conjunction with a tax professional
often makes this truer than if you try to go it alone. However, either
way you determine to handle it, be assured that for the most part, the
IRS is not out to get you. In the end, the IRS is there to make sure
that everyone in the country is paying their fair share. While we all
know, and have heard stories, of people who have ‘bested’ the
system, that’s not what you should be about, because in the end,
things can come back to haunt you. Play by the rules, do your best to
stay organized, and an audit may be nothing more than a cordial
conversation by mail or over the phone.

Build Your Audit Safety Net

It’s a great idea to keep things in order just in case. Here is a start.
Use this handy checklist to get your office and books in order.

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____ I have at least 5-7 years tax returns in a file that I can access
immediately.
____ I have records of payroll taxes paid for the last 3 years.
____ I have a cost analysis for at least 3-5 years
____ I have records and receipts that back up tax credits claimed (3
years)
____ I have records and receipts that back up deductions claimed
____ I have made a list of red flag practices and eliminated them.
____ Information or W-9s for independent contractors
____ Information or W-4s for employees
____ I have kept my business income and personal income separate
____ I can account for money that has come into or gone out of my
business for the last 3-5 years.

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CHAPTER 20

Just when you thought it was safe to go back into the fiscal waters, a
fin breaks the surface in the form of a slick con-artist who is dying to
sink his teeth into your wallet. Most of these schemes or scams come
over the phone or your email, but they can take many, many different
forms, all with the same goal in mind: to part you from your money
before you know it. This chapter will show you the quickest way to
spot a scammer, what the IRS will (and won’t do) in the event of a
scam, and how to avoid being scammed in the first place.

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The Laundry List of Tax Scams

The following are the most popular tax scam barracudas and sharks
that are living large, globally. Not only do you have to be worried
about being scammed by unscrupulous Americans, but you have to
also watch your back when it comes to people living outside of the
US. The Internet has opened up the doors very wide to con artists
and their ilk.

Phishing

The term, itself, was coined in 1996 by some hackers that managed to
break into and steal a lot of AOL email addresses and personal data.
The evolution of phishing since then has been exponential. Typically
these types of scams come over the internet, usually in the form of
emails. They look like they are coming from businesses that you trust,
like your bank, for instance. They use the same logo, same colors,
and so at a glance, they look very legit.

The email tells you to click on a link which takes you to a spoofed
website that mimics a website that you trust, then it might ask you to
update your password or give out other specific and personal
information. They might say something like ‘due to fraudulent
activity on your account, we need you to verify your information’,
then they ask you to click on a link. Once you do that, then land on
their spoofed site and enter in your information…you’re toast.

Phishing scams all share some of the same characteristics:

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• Come via internet
• Include internal links
• Induce a ‘fear’ reaction (you might lose something valuable if

you don’t take action)

There are even subgenres of phishing, depending on what the hacker
is going for. Spear phishing is when the perpetrators are going after
just one individual, or one organization. It is targeted specifically in
this way because with the additional institutional information, they
can make the identity theft believable.

Spear phishing

Phishing attacks directed at specific individuals, roles, or
organizations are referred to as "spear phishing". Since these attacks
are so pointed, attackers may go to great lengths to gather specific
personal or institutional information in the hope of making the attack
more believable and increasing the likelihood of its success. Whaling
is form of phishing that goes after the ‘big fish’, executives or high
profile targets.

How to Avoid Phishing Scams?

Most reputable companies will not use email to contact you, or ask
you to transmit sensitive data via the internet or by phone. Any email
that asks you for personal information, even something like an
address to confirm, even just the last four of your social, is suspect.

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Don’t click on links in an email, and don’t reply. A great way to tell if
the email is legit is to go to the company’s website from a completely
different internet search, and contact the company to verify the
request. The other thing you can do is go into internet options in
your computer, and set it to a plain text mode, only. This will expose
links buried under images. If you leave it on html, then attackers can
use your email program to execute code, leaving you open to
potential infection by viruses.

If switching out of html just isn’t going to work for you, there are
other options. First, you can hover your mouse over any images or
text links that show up (just don’t click on it). The newer programs
will show the link without it being active, so you can view it and see
where it is coming from. Also, if the email has come from an actual
sender, who has used a digital signature, then chances are good that
it’s from a real person. The best thing to do, in the end, is to identify
it as SPAM, report it if the option is available on your internet client,
then delete it from your inbox, and then from your trash.

Racially Slanted Tax Scams

This scam in particularly odious in my opinion. Most of these scams
claim that the IRS is offering $5000 dollars to those African-
Americans who can prove they are descendants from a formerly held
slave. These scammers bank on the racial tension that is still apparent
in the US. This scam was first noticed in 2000 when it targeted senior
citizens. The email told these older Americans that if they were born
before 1928 that they were eligible for a “Negro Inheritance Tax

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Refund". They claim that it is based on the ‘slave reparation act’.
What’s worse is that these scammers took advantage of the close knit
relationship that a community might have, and targeted letters and
emails to churches, telling them to inform their congregations. Then,
unfortunately, many people did just that….they filed. The downside
was that the IRS not only told them there was no such deduction, but
that they were now going to be fined for filing a frivolous claim! The
scammers make their money by offering to file the forms for you for
a percentage of what they would be receiving (of course, up front).
Last year, alone, there were still more than 100,000 African
Americans who sought this type of tax credit. It does NOT exist.

Hiding Income Offshore

This is accomplished when a taxpayer opts to keep their income in an
offshore account, either a bank or via a brokerage account (or even
other nominee entities). The funds are accessed using electronic
transfer such as a credit card, or wire transfer. Foreign trusts,
annuities, insurance plans, or even using an employee-leasing scheme
are all vehicles that the IRS takes exception to. It is not illegal to have
an offshore account, it should be said. Often they offer better rates
that in-country accounts. However, NOT reporting them is the
problem. If you have one, declare it.

Return-preparer Tax Fraud

In this scheme the scammer poses as a tax preparer who has
‘discovered’ that you could be missing out on massive tax refunds.

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This particular scammer preys on people who don’t have a huge
filing requirement (usually those in the lower quartile, low income, or
the elderly). The preparer tells you that they can get you a BIGGER
return than the one they are expecting, and many people fall victim to
the pitch. The crook tells you to go ahead and sign a blank return,
complete with your social security and personal data, of course, and
that they will have your refund deposited directly into his account
first, then he’ll take out his cut, and then forward the rest on to you.

Disguised Corporate Ownership

You might not have heard it called ‘disguised corporate ownership’
which is the official title. But guaranteed you’ve heard of money
laundering. If a company is set up and operated for the purpose of
hiding who the real owner or financial activity is, obtaining a EIN to
underreport income, and so forth, then it is very….read my
lips…VERY illegal.

Economic Stimulus Scams

You might be eligible to receive monies from the US government due to a surplus
that has been accumulated. Go to this website and register to check for eligibility
now. People who fall prey to this one go to the website where they
plug in their information and, surprise surprise, they are eligible. Just
pay this nominal ‘fee’ for processing the stimulus check. Most
recently, these scammers have taken to newer technology and have
created a video that looks VERY legit. It is not. There is no
economic stimulus check to be had.

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Tax Arguments

This one has just recently surfaced (as of 2016). It is where people
believe that they can conscientiously object to the payment of federal
or state taxes based on their religion, or their moral fortitude. Many
of these ‘tax argument’ filers claim First Amendment protection, but
taxpayers will end up losing this fight, and they will then end up
having to pay what they owed plus interest and penalties. This can
cost you at least $5,000 right off the bat, and then more on top of
that. Don’t. Do. It.

Fuel Credit Scam

While it is true that farmers are given a credit for off highway
business activities, individuals claiming tax credit for nontaxable uses
are engaging in a fuel credit scam. The tax on fuels used to power
equipment and other industry specific machinery are deductible, but
the IRS has new filters on their programs that will ‘kick out’
deductions that don’t jive with the industry you are involved in. Just
be honest about your fuel mileage and deductions.

Retirement Scams

This one really deserves an entire chapter devoted to it.
Unfortunately, the elderly in the US are the primary targets for
thieves, particularly scammers. They bank, literally, on the fact that
older citizens in the US (at least right now) aren’t very savvy when it
comes to the Internet, and will believe anything, click on anything,
and readily divulge all sorts of information.

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Another way that the retiree can be scammed is by someone who
takes advice from their financial advisor to transfer appreciated assets
into their Roth IRAS, usually at cost value. While you can make
contributions to retirement plans, they have to be made in cash, not
appreciated assets. AND, there are limitations to the yearly
contributions, anyway. Again, this is another case for selecting your
financial advisor, as well as your certified tax coach, with much care.
Look for not only credentials, but affiliations with governing
organizations who will hold them to high standards, and will police
their members should unethical activities occur.

Other scams include someone calling from a very bad connection,
claiming to be a grandchild who is stranded in a foreign country and
needs money wired to them. Yet, another scam has the perpetrator
posing as a charitable organization asking for a donation. They ask
for a check, because they are such a grassroots organization they can’t
afford to process money any other way, and then when they get the
person’s check…they have all of the vital information they need to
steal their identity. Scammers will call or write offering heavily
discounted medical equipment, or other services, medications, that
the elderly generally use. It is particularly despicable, in my opinion. If
you have someone that is an older person in your life, AARP offers a
fraud watch network that specifically lists out all of the frauds that
target the aged in the US. It is so prevalent that the government has a
specific hotline so that seniors can report scammers (it is
administered by the Senate Aging Committee).

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Zero Wage Scams

Some taxpayers thought that they could cleverly file a phone wage
form (4852) so that their taxes would reduce down to a zero balance.
This type of action is particularly being targeted the IRS and in its
own words will be ‘aggressively’ prosecuted.

Trust Busts

Yes, trusts are a great vehicle, but in the wrong hands, they can turn
into huge scams. Transactions that promise a reduction of income
that should be subject to taxation, or other personal deductions, and
so forth, are illegal. Trusts must be used as they were intended, or
you will face consequences you hadn’t planned on.

Falsifying Tax Returns

It’s one thing if you file a tax return and were just clueless (though
you will still pay for your ignorance). It’s another if you knowingly
filed it with the intent of gaining more return money than you were
entitled. This is why trusts should ALWAYS be set up by verified and
certified professionals. Good, qualified tax attorneys will set them up
properly.

The Laundry List of Investment Shams

Scam Investment Software

Investing your money should take time and consideration. While
there are plenty of trustworthy and useful software packages on the

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