Jim Beddow, CPA

As you may know, the states and cities are broke and they’re looking for income. Many local governments are relying more and more on audits and their traffic law enforcement income to balance the budget. I’ve recently talked to a few CPA friends about the kinds of audits they’re seeing in their practices. Here’s a list of what I heard about about:

• Sales & Use Tax – The auditor got them for not paying use tax on magazine subscriptions, software updates that came in the form of a CD (not a download), and the purchase of some used furniture. The auditor said that technically all businesses are supposed to file a use tax return at least annually. Internet purchases in the business are subject to use tax as well.
• GA Department of Revenue audit of income tax return – Disallowed a vehicle deduction because the vehicle wasn’t in the business name.  Also collected sales tax on firewood sales and cleaning fees in a vacation rental business.
• Unclaimed property audit by GA Department of Revenue – They were looking for uncashed payroll checks for a 5 year period. Most states have unclaimed property laws that eventually require that property to be turned over to the state.

According to CNN Money, the 22 biggest banks cut small business lending another $1 billion in November. These are the banks that got most of the bailout money and that brings their total to $12.5 billion since April. I guess they needed the money to pay the bonuses.

Instinctively, I’m not willing to voluntarily move my data to the cloud. Call it a control issue or a generational problem or whatever, it’s just not for me, at least not yet. The legal issue surrounding privacy and protection of the data from government seizure are alarming. Here’s an article by James Urquhart on CNET News that will begin to get you up to speed.

In essence, according to some legal experts, there are several problems we have to come to grips with:

• First, if you don’t care whether the government has access to the information you store in the cloud, read no further. This isn’t for you.
• The courts are very slow to hear cases that allow the law to keep up with the technology. Technology is evolving too fast and Web 2.0 is coming at us too fast.
• When you turn your data over to a third party, the Supreme Court has ruled in a long standing telephone case that you lose your reasonable expectation of privacy.
• In April, 2009, the FBI raided two data centers in Texas and hauled off their equipment.  They had a court order to get the data concerning one company, but got everyone’s data that was hosted in the data center. See the Wired article here.
• Congress needs to act on this and give users some assurance that their privacy will be respected by the courts and in practice. Of course, we’ll probably have to build something we don’t need in Alabama or Nebraska in order to get any kind of bill through the Senate since that’s the only thing the Senate apparently responds to.

James Urquhart in the CNET article above refers to an opinion written by a third year law student in the Minnesota Law Review. It’s a long read, but it points up the fact that there are many unsettled issues surrounding privacy and the cloud. I’m not comfortable yet with my or my clients’ data in the cloud. Like any new technology, there’s still some work to be done to get it right.

In a report released by the IRS Ombudsman today, National Taxpayer Advocate Nina E. Olson warned Congress that increased demands on the IRS have eroded the agency’s ability to meet taxpayer service needs. This year the IRS has a target to answer only 71% of calls from taxpayers seeking to talk to a customer service representative about account questions. Callers will have an average wait time of 12 minutes. That means the IRS won’t answer 3 out of 10 calls.

Another study found that the IRS procedures for determining a taxpayer’s ability to pay outstanding liabilities may be driving some into long-term noncompliance because the IRS will not consider other debts like credit card debt, school loan balances and medical bills.  These people are dropping out of the system. Ms. Olsen said  “Taxpayers are placed in the intolerable position of agreeing to pay the IRS more than they can actually afford (given their other debts) and then defaulting on the IRS payment arrangements when they channel payments to unsecured creditors in order to get some peace. Thus, the IRS itself fosters noncompliance by its failure to take a holistic approach to the taxpayer’s debt situation.”  She advocates the IRS change their policy and not file tax liens against people that don’t have the ability to pay. The complete report is at:

http://www.irs.gov/newsroom/article/0,,id=217903,00.html

She also praised the IRS for moving ahead with plans to regulate federal income tax preparers. The plan covers unenrolled preparers which excludes attorneys, CPA’s and Enrolled Agents who already must pass a rigid exam in order to practice.

Federal Judge William J. Zloch, upheld the 40 month prison sentence given to Bradley Birkenfeld, the vital principle informant in the Swiss UBS Bank tax fraud case. So, the result of that case is the whistleblower will do time and the tax fraud perpetrators won’t do a day. What is this judge thinking? (Judge Zloch was a recess appointment to the federal bench by Ronald Reagan in 1985. ) The Justice Department took the position that the jail time was warranted because Birkenfeld wasn’t immediately forthcoming about his client’s tax fraud. Birkenfeld also stands to collect upwards of $30m in reward money for forcing UBS to turnover 4450 U.S. tax cheats.

According to WebCPA, the Census Bureau has reported that tax revenue for state and local governments declined 6.7% in the 3rd quarter of 2009. This is the 4th consecutive quarter of negative growth in tax revenues. Property taxes, however, increased 3.5%.

Analysis of the underlying numbers indicates that in Georgia, total taxes decreased 12.2% and sales taxes declined 6.8% from the 2nd quarter. Look for the Georgia Department of Revenue to respond to this pressure and become even more aggressive. In 2009, practitioners saw a marked increase in correspondence audits where taxpayers received a letter requesting they document their deductions. The ones I saw were audits of itemized deductions.

The Georgia budget will be the primary subject when the legislature returns in January.

The IRS released the 2010 mileage rates. The new business mileage rate is 50 cents per mile, down from 55 cents per mile in 2009. The new medical and moving mileage rate is 16.5 cents per mile down from 24 cents per mile. Ouch! The new rate for charitable driving is 14 cents per mile.

Under the Bush administration, the estate tax was scheduled to sunset after 2010. As any observer knows, the federal treasury can little afford to have the estate tax go away next year. A bipartisan group has introduced legislation in the house that would extend the life of the estate tax, increase the unified gift and estate credit and lower the tax rate from 45% to 35% over a period of years.  It will take time to ultimately pass a bill, but I doubt the estate tax is going away.

The Treasury Department Inspector General for Tax Administration (TIGTA) has reported that the First Time Homebuyer Credit has resulted in fraudulent or erroneous filings that have cost the treasury $618.4M. Some of the claims were filed on behalf of people as young as 4 years old, according to the report. When the law was passed, TIGTA recommended to the IRS that taxpayers be required to verify their eligibility and to document that they had purchased a home in the stipulated time period. The IRS failed to follow this recommendation. This credit extends to July 1, 2009, so some of these filings won’t be made until the 2009 returns are filed. John Lewis (D-GA) has introduced legislation to give the IRS additional powers to block the payment of refunds based on potentially fraudulent or erroneous claims.

The IRS audits about 1% of the Schedule C’s filed each year. That’s the tax form sole proprietors complete to calculate their taxes from self employment. 25% of these returns report losses and 95% or so of the losses are deducted against other income. The GAO estimates that 70% of of those returns understated income or overstated expenses and the resulting unreported income is estimated at $40 billion. In 2008, the IRS devoted about 25% of total revenue agent time to auditing sole proprietors. This is a very inefficient use of agent time because these audits individually yield small amounts of money. The Treasury Department is giving some consideration to recommending limits on these deductions because they are so difficult to audit.