IRS Alerts

Here are five best practices to serve your clients

In the first week of December, the IRS starts the first of two rounds of underreporter inquiries for 2011 Forms 1040. Last year, the IRS sent 4.7 million CP2000 notices to taxpayers. For 2012, the IRS has reformatted the CP2000 notice to make it easier to understand. Although the letter format changed, there were no procedural changes in responding to CP2000 notices.

This year, the IRS also began an underreporter program for businesses: the CP2030/2531 program for business underreporting. In this program, the IRS is matching Forms 1099 to business returns and is proposing adjustments to the return. According to the IRS, these letters started at the beginning of October. The Internal Revenue Manual was also updated in October to reflect the new program.

CP2000 best practices

IRS statistics show that one out of every three CP2000 notices sent does not result in additional taxes owed. However, to show that your client doesn't owe, you must respond effectively and by the deadline for the IRS to change its proposal for additional tax.

CP2000 notices can also present a client retention risk: Handle the issue incorrectly, and your client may lose confidence in you as a trusted adviser. Here is a reminder to use these five best practices when dealing with your client’s CP2000:

1. Respond quickly.
   
   

   It takes time for the IRS to process responses. In 2011, the IRS sent more than four times the number of CP2000 notices than it sent in 2001, and it only doubled the number of tax examiners to handle them. The result: a backlog of mail at the IRS that is processed on a first-in, first-out basis. Respond early to avoid a premature notice of deficiency.

2. Ask for an extension if you are within 10 days of the deadline to respond.
   
   

   If you can't respond within 10 days of the deadline, call the IRS to request an extension. Tax practitioners can call the Practitioner Priority Service hotline at (866) 860-4259 and select Option 6, which will direct you to the Automated Underreporter Unit. The IRS will grant 30 additional days without much resistance.

3. Format your response.
   
   

   Because the IRS processes more than 20 million pieces of post-filing correspondence annually, it is important to compile one organized response. Start with a cover letter clearly stating that you are responding to a CP2000 notice. Include the taxpayer’s name, identification numbers, year and form in the reference section of the letter. In the letter, state your position and clearly reference the attachments that prove your position. Include a copy of the CP2000 notice and indicate your agreement or disagreement in Step A of the notice. It's helpful to attach supporting documentation, as well as a corrected tax return to help the IRS compute the liability. Label the tax return "Corrected - for CP2000 response purposes only - Do not process." That way, the IRS will not process this return if it gets separated from the other response documents.

4. Do not file an amended return.
   
   

   Tax practitioners commonly make this mistake. Filing a Form 1040X as the result of a CP2000 notice only confuses the IRS. This is because Form 1040X routinely gets routed to a filing unit, rather than the underreporting function. In the end, the IRS may not process the Form 1040X as a reply, the IRS assesses the CP2000 tax, and a mess ensues when practitioners try to correct the issue.

5. If the IRS sends a premature notice of deficiency, ask for CP2000 reconsideration.
   
   

   The IRS often allows practitioners to "back up" the notice of deficiency because of processing delays. However, if the IRS considered a response and issued the deficiency notice, it's best to petition if you disagree. Remember that you can appeal CP2000 deficiencies to the IRS Office of Appeals, but to do so, you must appeal before the IRS issues a notice of deficiency. One tip is to include the following statement in all responses you send to the IRS: "In the event that the IRS disagrees with this response, the taxpayer requests an appeals hearing with the IRS Office of Appeals." This will protect your internal IRS appeals rights.

These tips will also work for the new business matching CP2030/2531 program. When you use these best practices, you will get the best results for your clients and cement yourself as their year-round trusted tax adviser.