IRS Audit Reconsideration...what Does That Mean?

Traditionally when people talk about audit reconsideration, particularly at the IRS, what they're talking about is the reconsideration of an audit determination where you’ve gotten one of those love letters that says hey guess what, John Smith? Bring your box of receipts down to your local IRS office. We’re going to go through those things line by line and basically try to increase your tax liability to a number larger than you’ve ever imagined.

That’s not really what I want to talk about today. I want to talk about something even more common that that, and that’s audit reconsideration – when the IRS has prepared what's known as a substitute for return for you because you didn’t bother filing a return.

Have you ever gotten an IRS notice in the mail for a tax year that you know you didn’t file a tax return, but instead there is a big giant number there attached to it. So you know you never filed a tax for 2000 return, but wow, where’d they get the number $13,472 that I owe them?

What's happened is the IRS has prepared what's known as a substitute for return for you. A substitute for return is prepared for a taxpayer when they don’t bother to get around to it.

In other words, the IRS knows that you're probably going to owe money or suspect strongly that you're going to owe them money. So what they do is they gather up all the W2s and 1099s and add up that number. They go ahead and give you one exemption, one dependent (yourself), pick the highest filing status that they can find and go ahead and prepare the return. They add up all the numbers, multiply by the tax rate, and out comes a big fat number. Then they go ahead and add a bunch of penalties and interest on there and then they start trying to collect it from you.

Sometimes they’ll actually follow the rules and send out a notice of deficiency first, which is your ticket to tax court. But if you're like most of my clients anyway, you’ve moved roughly 37 times since the last time you filed a tax return and so you never got the notice.

At any rate, a taxpayer can then go ahead and file an original return subsequent (which means after) the IRS has prepared a substitute for return, and the law provides that the IRS may accept your figure and abate (which means reduce or eliminate) the excess tax penalties and interest. Pretty cool deal.

Let me tell you a quick story. I recently had a client come in, and she had a tax bill for over $200,000 – big number even to me, and I’m used to dealing with big numbers. So she owes $200,000 according to the IRS. So we sit down here in my office, and we have a friendly little talk. During the talk, I realize hey, this is a substitute for return. This is an SFR; we might actually have the ability to refile a correct return and get this thing to go down. I talk to her for a bit, and I find out that the tax bill was so high because it’s based upon the sale of her house. I ask her a few follow up questions and low and behold, I find out that that wasn’t even a taxable transaction.

We file the return for the first time. We followed some special secrets and procedures that I know about, and within six months, we almost totally eliminate the liability. It went down from $200,000 to $600. Is that a deal or what!