The mailman enters your office and delivers an ominous letter sized envelope addressed with the three most dreaded words in business English, Internal Revenue Service. You're tempted to shred the letter, so that you can claim innocence by ignorance, but you know that won't work.
Then you get angry. "I'm a God-fearing, honest, taxpaying American citizen. What in the hell do they want from me?" Well, more taxes, dummy.
You rip open the letter. The first page says it all, balance due $50K. You think, "Holy hell, how can I owe that much? I only cheated a little on my business expenses. My girlfriend's jewelry wasn't that expensive. It was fake."
You read further into your twelve page death notice and spot the problem. The notice is from 2011, the year your wife learned about your girlfriend's jewelry. You sold your marital home in the divorce receiving $500K for a house you bought for $700K. Of course, you had to make up the $200K difference with the bank - expensive fake jewelry at that.
The good news is that you owed no taxes when you sold the house at a loss. The bad news is that the IRS computer doesn't know about the loss. It only knows that you got $500K. All you have to do is show the purchase and sale settlement statements, and the IRS will leave you alone, right? Well maybe. A letter of response must accompany the documentation to show that you owed no taxes on the sale. Just sending the settlement statement will accomplish nothing. There are three sections to an effective IRS response letter.
The first section identifies the problem. It should look something like this.
"I am writing in response to your notice, a copy of which is attached. The notice assesses income taxes, penalties, and interest on my 2011 individual income tax return. The additional taxes are based on the sale of my primary residence on April 15, 2011. I believe the notice is in error for the following reason."
There are a few things to note in this section. First, you explain that the original IRS notice is attached to your letter. This gives the IRS employee easy access to your case. The notice contains internal IRS code identifying the you, the time period, and the type of issue.
Second, you very briefly identify the issue the caused the notice. Finally, you disagree with the assessment and note that your reason for the disagreement follows.
The second section of the letter explains the issue in more detail and why you believe the notice is in error. It should look something like this.
"On April 15, 2011, I sold my primary residence for $500,000. Please see the attached settlement statement. The house was purchased on June 17, 2006 for $700,000. Please see the attached settlement statement. I incurred a loss on the sale of $200,000, which is a nondeductible loss and nontaxable sale of a primary residence."
This second section includes the detail necessary for the IRS employee, with the misfortune of handling your case, to determine that you owe no taxes and resume surfing the internet for porn. It also references all of the supporting documentation supporting your conclusion.
In the third and final section, you show your weenie. Put your cell phone down. I'm not talking about enclosing a picture of your junk. That has never worked for me. Paul and I coined the term, weenie, to describe the section of the letter where you tell the IRS what action you want them to take. When one of our staff prepares an IRS letter without asking for specific IRS action, we ask, "Where's the weenie?"
A couple years ago, I met with a new client, who was having trouble getting the IRS to resolve a payroll tax problem. She didn't owe any money, but still the IRS was hassling her. She gave me a four page letter her previous CPA had written.
The letter had an enthralling plot, memorable characters, and the prose was riveting. There was just one problem with the letter. It never asked the IRS to do anything. So they didn't. The tax balance just continued to accrue interest and penalties, and the IRS continued trying to collect them. I wrote a three paragraph letter, and the tax balance went away. My weenie was the key. In our example, the weenie section should look similar to this.
"Therefore, I ask that you remove the assessed taxes, interest, and penalties from my 2011 individual income tax return. If you have any questions, please contact me at the address listed in your records. Thank you in advance for your assistance."
As you can see a weenie doesn't have to be long to be effective. Keep it short, but penetrate to the core of what you want done.
Keep the length of the letter to one page, two pages at a maximum. The IRS employee must be able to grasp your situation and why you are correct in a minute or two. Also, nowhere in my example do you see the terms, douche bag, asshole, moron, skank monster, or subhuman vermin. Experience has shown these terms to be ineffective even if accurate. You are also well advised to avoid references to assumed ancestry, suspected inbreeding, or sexual acts preferred by someone's mother. All of these references are superfluous and need not be expressed.
Receiving an IRS letter isn't one of life's little joys, but you shouldn't lose sleep over one. Most IRS letters result from mismatches between your tax return and information the IRS received from someone electronically. According to taxworks.com, IRS notices increased from 30 million in 2001 to 201 million in 2009. Those numbers will only increase in the coming years with the federal budget crisis pushing the IRS to recover more uncollected taxes.
Finally, if you don't understand an IRS notice, most are written in an indecipherable dialect of bureaucrat-ese, seek professional help. Yes, we charge for this, but we can often save months of frustration and continued nasty notices. I have seen most notices before, and I have prepared responses that worked for someone else.
My Thanksgiving prayer for the Redskins worked. We were treated to a fabulous Skins flick titled, "RGIII does Dallas." Truth, justice, and the American way prevailed. God bless America - and the Redskins.
As always, thanks for reading. For real tax and accounting advice, please visit our main S&K web site at www.skcpas.com. Let's do it to them before they do it to us. HTTR.
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