The IRS is busy playing detective! But are they building cases, clue by meticulous clue, like the supersleuths of television’s CSI? Or are they falling on their faces like the bumbling Inspector Clouseau?

Last month, a federal judge gave the IRS permission to serve a “John Doe” summons on the California Board of Equalization, demanding names of residents who transferred real estate to children or grandchildren for little or no consideration. The IRS sought the names as part of a nationwide effort to find taxpayers who transfer property to relatives without filing gift tax returns. (The IRS had already rounded up information from Connecticut, Florida, Hawaii, Nebraska, New Hampshire, New Jersey, New York, North Carolina, Ohio, Pennsylvania, Tennessee, Texas, Virginia, Washington state and Wisconsin — but California officials objected that state law prohibited them from ratting out residents without court approval.)

Most people don’t know much about gift tax, for the simple reason that most people won’t ever pay gift tax. Gift tax law lets you give up to $13,000 per year to as many people as you like. Once your gifts to any single person (other than your spouse) top $13,000 in a year, you’re required to file gift tax returns. Your cumulative lifetime gifts count against your estate tax “unified credit,” which is the amount you’re allowed to leave free of estate tax. And once your cumulative lifetime gifts top $5,012,000, you owe a 35% tax on the excess. If you’re gifting to a grandchild or some other person more than one generation removed, you might even owe an extra 35% “generation-skipping” tax.

How does that lead the IRS to combing state property records like a sleazy private investigator tracking down a cheating husband? Well, transferring property into an heir’s name is a common estate-planning move. Let’s say you own a beloved vacation home, or a stock portfolio, and you don’t want to see it burdened by probate. You can just add your child’s name to the deed or account as “joint tenant with right of survivorship,” and at your death, voila, the property automatically passes to your child. But there’s a catch — transferring property like that counts as a “complete gift.” If that property is worth $1,000,000, you’ve just made a $500,000 gift!

This particular IRS “project” is already yielding results. The IRS filed an affidavit in the California case stating that they had examined 658 taxpayers who transferred property to relatives — and concluded that 238 of them should have filed Form 709 to report the gift. Twenty of those 238 were assessed actual tax because the transfers pushed them over their lifetime exemption.

This isn’t the first time the IRS has used the “John Doe” summons to flush out members of suspect groups. Back in 2002, the IRS subpoenaed MasterCard and Visa to find taxpayers using debit cards tied to accounts in offshore tax havens. And in 2008, they used it to find taxpayers hiding Swiss bank accounts. The Internal Revenue Manual puts strict limits on this tool. But if today’s efforts succeed in finding lost revenue, we can probably expect to see more in the future.

There are a couple of lessons here. First, many financial moves — like transferring property into your kids’ names — have hidden tax consequences that are easy to miss. And second, the IRS has more ways than you realize to find those consequences. So don’t take chances, especially when they might land you on the wrong end of an IRS subpoena! You know how the utility company tells you to “call before you dig”? Well, call us before you dig, and we’ll help you avoid all sorts of nasty surprises!

In a brilliant attempt to “reduce burden” for taxpayers, the IRS now has a new tactic for auditing small businesses. They now have Quickbooks and Peachtree software and are requesting electronic versions of accounting records for their audits. They have released further details to remind that it is mandatory that you provide your accounting records in an electronic format if they are requested. So what does this mean for you if use one of the off the self software packages for your accounting records?

From an IRS audit prospective, this means that the door will be open to analyze data much further to determine where they may be able to effectively find compliance problems (aka get more money from you). If they have the electronic accounting file, they can review the audit trail to see if anything was changed after the transaction was originally entered. They can tell how often you update your records. They can also see all deleted transactions. The problem is that they can start asking a lot of questions that are really out of the scope of what may have originally selected your returns for audit.

Here is the Q&A from the IRS on requests for electronic software records. http://www.irs.gov/businesses/small/article/0,,id=238525,00.html

Check out Question #6 from the IRS:

Q6. How will the electronic data be used?
A: Most accounting software programs can generate a large number of pre-set reports. Each report can be modified to fit the examiner’s needs. When working with these reports, the examiner can “drill down” to the underlying data and documents to further investigate items, as appropriate. The software also allows the examiner to test the integrity and veracity of the accounting records in making a determination as to the reliability of the records for examination purposes. However, the examiner may still need to request other documents when such records are necessary to properly test a return item or issue.

Wow I really think this will help speed the audit along and I especially like the “further investigate items, as appropriate.” That sounds so fun!

How about Question #12 from the IRS:

Q12. The accounting software backup file can contain transactional data for several years that are outside the scope of the audit. What, if anything, will the IRS do with that information?
A: If IRS is given a backup file that includes data for years not under examination, IRS will not utilize that data during the examination of the current year. If based on the results from the current year examination a decision is made to expand the scope of the! examination to prior or subsequent years, the taxpayer will be notified. The records may be utilized after that notification.

So they probably won’t expand the scope of most audits, right (Sarcasm)?

For most clients that we see, their Quickbooks file does not contain all of the transactions necessary to complete their tax return until we clean the file and enter adjusting entries. Many Quickbooks files we see have significant problems like negative accounts receivables, large balances in their undeposited funds account, and negative accounts payable entries. If the IRS gets their claws into these types of files, I foresee that they will be digging much further and causing a lot more time and money to be spent because audits will last longer and require more documentation and research.

So what is a business owner to do to protect from this unnecessary evil? Here are a few items to consider:

1. Business owners should stop and think about their own skills. Are their books and records really something they would want to turn over to the IRS in their current condition?
2. Most business owners are trying to use Quickbooks to manage their check book or maybe their receivables. If so, let’s talk about other solutions that may even be more effective. There are receivables-only solutions that can help more effectively collect money and expedite the collections.
3. Is this really an effective use of the business owner’s time?

Our firm offers solutions to remove the burden of bookkeeping from the owner and allow them to concentrate on making money and growing their business. We use professional accounting software systems that are not compatible with the IRS electronic accounting systems. The records will be accurate from the start and good planning for taxes can occur all throughout the year. We generally can assist owners with this process and show them how they can save more money than it costs to have this service.

Let us show you how it can be a win-win situation for you and if you are the lucky recipient of an IRS audit notice, we can make the process much smoother and less costly than letting the IRS dig aimlessly!

Is the IRS snooping around in your Facebook profile?  Are they lurking behind the scenes and quietly watching your every move on Twitter?  Are they LinkedIn to you?  Or possibly invading your space on MySpace?

Are Revenue Agents spying on you via Social Media?

The Internal Revenue Service is all hush-hush on the issue and has declined to say whether its agents are using social media to track tax evaders, but State tax agencies have started using it as a valuable tool in finding the money.

Apparently, they are tracking tax evaders via the popular social networking sites to mining information from their post and profiles. 

In Minnesota:  Agents garnished the wages of a tax evaders after he posted his newly found employment on MySpace.

From the Wall Street Journal:

In California, which has recently been so strapped for revenue it has had to pay some bills with IOUs, agents are also using social Web sites. When one delinquent was identified as a rigger of sails, a curious collection agent searched his name and the term online and found a discussion board used by local riggers. In one thread someone asked where the rigger was because his store had closed, and a reply was posted, “Oh, he moved across the bay.” The agent found the man and collected a four-figure sum.

Read more examples from the Wall Street Journal.

Also, in the Blogoshere:

Don’t Mess With Taxes:  “Is your new ‘friend’ a tax collector?

Tax Update Blog from Roth & Company:  “IRS IS YOUR ‘FRIEND’?  LOL

I just read an interesting article from the Detroit Free Press entitled “9-cent IRS delimma leaves lawyer confused.”

Apparently, Attorney James Howarth got a letter from the IRS stating that he owed five cents. Then later got a notice that he was due a refund of four cents.

Howarth was updated because of the cost of the check, his CPA’s fee, envelope, secretary’s time, postage and other related cost.

I see his point, but my question is about the other end of this deal. How much does the IRS waste to send these out,attempt to collect, and to process payment once the payments are received. There should be a minimum amount of tax due before a notice is sent out – and I can tell you that the minimum is not 5 cents. Also, if he worked with his CPA on a fixed fee arrangement, then he wouldn’t have to worry about calling him for help with the matter – or would he have to waste his time doing it.

The story gets better. A few days after getting the notice that he owed 5 cents, Howarth got a notice saying that he was due a refund of 4 cents, but he would have to make a formal request to receive it. He found it quite odd that the payment of the 5 cents he owed was not optional, yet the 4 cents they owed him was.

His dilemma now is whether or not he can net the two together, and pay only 1 cent or not. Of course, he called them, but said he gave up after “an inordinate amount of time on hold.” Once again, he should have made sure he had notice protection or some sort of fixed fee agreement through his accountant so that this would be handled for him.

All in all, I think he spent more time complaining about it than he did working on it.