Author: Alexis Long

CFPB targets “junk fees”

In recent guidance, the Consumer Financial Protection Bureau (CFPB) highlighted two “junk fee” practices that, in its view, are likely unlawful:

1. Surprise depositor fees. Banks sometimes charge fees to consumers who deposit checks that bounce. Typically, this happens because check originators have insufficient funds in their accounts, but in some cases, depositors are victims of check fraud. Either way, the CFPB explains, “Charging a fee to the depositor penalizes the person who could not anticipate the check would bounce, while doing nothing to deter the originator from writing bad checks.” According to the CFPB, indiscriminately charging these depositor fees likely violates the Consumer Financial Protection Act. A better approach is for banks to limit these fees to situations in which the depositor should have anticipated the check would bounce — for example, when the depositor has deposited several bad checks from the same originator.
2. Surprise overdraft fees. These fees — which may be imposed when a customer doesn’t reasonably expect their actions to result in an overdraft — also may violate the law. One example is an “authorize positive, settle negative” transaction. This occurs when a consumer has sufficient available balance in the account when a transaction is initiated and authorized by the bank. But because of intervening authorizations, settlements or other complex processes, the financial institution finds the consumer’s balance is insufficient at the time the transaction is settled.

Should you amend your qualified retirement plans?                   

Like many businesses, banks are facing a labor shortage. One way to help attract and retain qualified workers is to offer a competitive employee benefits package. The SECURE 2.0 Act of 2022 provides employers with several options for enhancing their 401(k) or other qualified retirement plans. For example, plans can now permit employees who suffer economic losses from a federally declared disaster to withdraw up to $22,000 penalty-free. Employees also can spread the tax on those withdrawals over three years — or avoid tax completely — by repaying the withdrawal and recontributing the funds to a tax-advantaged retirement account within three years. In addition, plans may increase the maximum loan amount for disaster victims from $50,000 to $100,000.

Starting in 2024, under SECURE 2.0, plans will be permitted to treat qualified student loan payments as elective deferrals for matching purposes. This can be an attractive benefit for employees who otherwise would have to choose between paying down their student debt and deferring salary to a qualified plan to get matching contributions. Other provisions allow employers to offer tax-advantaged emergency savings accounts to rank-and-file employees and to permit employees to receive fully vested employer contributions (including matching contributions) as after-tax Roth contributions.

© 2023

If your bank participates in U.S. Small Business Administration (SBA) lending programs, it must comply with all SBA requirements and standards to ensure that the government will honor its loan guarantees.

SBA lending offers significant benefits for banks. Under the 7(a) program, for example, the SBA guarantees up to 75% of loans to eligible small businesses (85% for loans of $150,000 or less), with a maximum loan amount of $5 million. These loans allow banks to expand customer base, reduce risk, boost lending capacity (the guaranteed portion of these loans doesn’t count toward a bank’s legal lending limit), and improve liquidity (the guaranteed portion can be sold on the secondary market).

Preserve the guarantee

The key to the benefits of SBA lending is the government’s guarantee. If a borrower defaults, the SBA will scrutinize the loan file to ensure that the lender has complied with SBA requirements, as well as SBA loan authorization and prudent lending practices. If the lender doesn’t meet these standards, the SBA may reduce the amount of the guarantee (known as a “repair”) or, in more extreme cases, deny the guarantee altogether.

Here are common reasons for a repair or denial:

Lien or collateral issues. Examples include failure to obtain the required lien position, failure to properly perfect a security interest or failure to fully collateralize the loan at origination when additional collateral was available (usually a repair).

Unauthorized use of proceeds. This involves disbursing proceeds for purposes inconsistent with the loan authorization (denial or repair, depending on the circumstances).

Liquidation deficiencies. These include failure to conduct a site visit, improper safeguarding or disposition of collateral, and misapplication of recoveries to the lender’s loan (usually a repair, but could be a denial if the harm is the full value of the outstanding balance).

Undocumented servicing actions. This includes failing to renew liens when required, releasing or subordinating collateral without a documented business justification, and allowing hazard insurance to lapse on collateral that’s later destroyed (usually a repair).

Early defaults. Typically, early defaults occur within 18 months if there are lender omissions, such as missing or unsupported verification of a required equity injection or missing or unsupported documentation of verification of borrower financial information with the IRS (possible denial if the SBA determines these omissions are the reason for the borrower’s business failure).

SBA loan eligibility issues. These may involve an ineligible franchise, ineligible loan purpose or ineligible loan recipient — for example, a loan to an associate of the lender (usually a denial).

If the SBA denies or reduces a loan guarantee, your bank will have an opportunity to present its case to honor the guarantee. But this time-consuming process will require convincing evidence showing that the bank’s actions were prudent and consistent with SBA requirements and the loan authorization.

Review your program

To preserve the benefits of SBA loan guarantees, review your bank’s SBA lending program. Make sure you have policies, procedures, checklists, controls and properly trained staff in place to ensure that your bank complies with SBA requirements. And be vigilant in monitoring SBA loans to avoid deficiencies that can jeopardize loan guarantees.

© 2023

Many currently problematic loans once looked good on paper — but now, aren’t worth the paper they’re printed on! To ensure your bank doesn’t succumb to the lure of loans that seem to be — and are — too good to be true, it’s important to have a policy of conducting proactive due diligence practices from the start. That way, you’ll help your loan portfolios remain stable and profitable over time.

Steps to consider

Start the due diligence process as an auditor would. That is, before you open a borrower’s financial statements, consider documenting the risks in the industry, applicable economic conditions, and the borrower’s business operations and collateral sources.

This risk assessment identifies what’s most relevant, where your greatest exposure lies, what trends you expect in this year’s financials and which bank products the customer might need. Risk assessments save time because you’re targeting due diligence on high-risk areas.

Financial risk

Now tackle the financial statements, keeping in mind your risk assessment. First evaluate the reliability of the financial information. For statements prepared by an in-house bookkeeper or accountant, consider that individual’s skill level and whether the statements conform to Generally Accepted Accounting Principles. If statements are CPA-prepared, consider the level of assurance: compilation, review or audit.

Comprehensive statements include a balance sheet, income statement, statement of cash flows and footnote disclosures. Make sure the balance sheet “balances” — that is, assets equal liabilities plus equity. You’d be surprised how often internally prepared financial statements are out of balance.

Statements that compare two (or more) years of financial performance are ideal. If they’re not comparative, look at last year’s statements. Then, note any major swings in assets, liabilities or capital. Better yet, enter the data into a spreadsheet and highlight changes greater than 10% and $10,000 (a common materiality rule of thumb accountants use for private companies). You should also highlight changes that failed to meet the trends you identified in your risk assessment. For example, you expected something to change more than 10% but it didn’t.

Now ask yourself whether these changes make sense based on your preliminary risk assessment. Brainstorm possible explanations before asking the borrower. This allows you to apply professional skepticism when you hear borrowers’ explanations.

Ratios for analysis

Use your risk assessment to create a scorecard for each borrower. It often helps to discuss your risk assessment with co-workers and to specialize in an industry niche.

One ratio that belongs on every scorecard is profit margin (net income / sales). Every lender wants to know whether borrowers are making money. But a profitability analysis shouldn’t stop at the top and bottom of the income statement. It’s useful to look at individual line items, such as returns, rent, payroll, owners’ compensation, travel and entertainment, interest, and depreciation expense. This data can provide reams of information on your client’s financial health.

Other useful metrics include current ratio (current assets / current liabilities), which measures short-term liquidity or whether a company’s current assets (including cash, receivables and inventory) are sufficient to cover its current obligations (accrued expenses, payables and current debt maturities). High liquidity provides breathing room in volatile markets.

In addition, total asset turnover (sales / total average assets) is an efficiency metric that tells how many dollars in sales a borrower generates from each dollar invested in assets. Again, more in-depth analysis — for example, receivables aging or inventory turnover — is necessary to better understand potential weaknesses and risks.

Finally, calculating the interest coverage ratio (earnings before interest and taxes / interest expense) provides a snapshot of a company’s ability to pay interest charges. The higher a borrower’s interest coverage ratio is, the better positioned it is to weather financial storms.

When applying these metrics, compare a company to itself over time and benchmark it against competitors, if possible. If customers’ explanations don’t make sense, consider recommending that they hire a CPA to perform an agreed-upon-procedures engagement, targeting specific high-risk areas.

Worth the extra effort

Digging deeper into the financial statements to determine what’s really going on within the operations of existing and potential borrowers may seem unnecessary in the face of what they’re already reporting. But to ensure those reports are based on sound facts and analysis, take a closer look. The health of your bank’s loans depends upon it.

© 2023

The failures of Silicon Valley Bank (SVB) and Signature Bank and the self-liquidation of Silvergate Bank in March 2023 served as wake-up calls for banking regulators and lawmakers. Although industry experts agree that steps must be taken to avoid similar failures in the future, they disagree over whether the solution is to implement stricter banking regulations or simply to improve oversight under existing regulations. Whatever the answer, banks can expect regulators to watch them more closely, particularly regarding capital, liquidity, and interest rate risks.

What’s your level of risk?

The good news for community banks is that their approach to banking is typically different than the niche banks that recently failed. So they’re generally not as susceptible to the types of risks to which those banks were exposed. For example, all three banks that failed had high percentages of uninsured deposits and dangerously high deposit concentrations. (Silvergate and Signature were heavily concentrated in cryptocurrency, and SVB’s deposit base was largely made up of uninsured tech start-up venture capital.)

Nevertheless, community banks should review their deposit mixes. They need to evaluate their risk management policies and procedures to prepare for heightened regulatory scrutiny.

What happened?

Major contributors to recent bank failures included the rapid increase in interest rates during 2022 and early 2023, as well as the collapse of the FTX crypto exchange. Rising interest rates exposed dormant interest rate risks at many banks that had invested heavily in long-term assets in a quest for higher yields when interest rates had reached rock bottom. As interest rates increased, the value of these banks’ bond portfolios plummeted, resulting in significant unrealized losses.

As FDIC Chair Martin Gruenberg explained in a statement to the Senate Banking Committee, “When Silvergate Bank and SVB experienced rapidly accelerating liquidity demands, they sold securities at a loss. The now realized losses created both liquidity and capital risk for those firms, resulting in a self-liquidation and failure.” SVB, for example, announced that it was raising capital and sold $21 billion in underwater securities at a $1.8 billion loss. This triggered a run on deposits, and in a matter of days, $42 billion in deposits were withdrawn.

What’s next?

Government officials are considering several initiatives to address the underlying issues that contributed to recent bank collapses. Their objective is to strengthen capital and liquidity standards for banks with more than $100 billion in assets. Among other things, banking regulators and lawmakers are considering:

• Imposing more rigorous stress-testing requirements on midsize banks,
• Tightening liquidity rules,
• Expanding FDIC deposit insurance coverage, which is currently limited to $250,000 per depositor, per bank, in each account ownership category,
• Increasing capital requirements,
• Reversing a 2018 law that relaxed regulation of midsize banks by increasing the “too big to fail” threshold from $50 billion in assets to $250 billion in assets, and
• Reevaluating regulatory oversight of banks’ deposit mixes, deposit concentration and percentage of uninsured deposits.

Regulatory, legislative and oversight changes will target midsize and large institutions. However, stricter scrutiny of banking risks may trickle down to community banks.

How should community banks respond?

In light of recent events, community banks need to review their risk management policies and procedures. The policies should meet regulators’ expectations and help the bank withstand any further turmoil in the financial industry. Specifically, community banks should:

• Monitor deposit trends to ensure that deposit bases are diversified and that there aren’t high concentrations of deposits in specific industries or groups of related customers,
• Review customers’ average deposit sizes and avoid a high percentage of uninsured deposits,
• Evaluate their liquidity position and, if necessary, take steps to increase liquidity and build liquidity buffers,
• Watch out for accumulated losses in their securities portfolios, and
• Conduct periodic stress tests to evaluate their exposure to interest rate risk and other risks.

Your bank also should communicate with customers to be sure they understand why community banks aren’t exposed to the same level of risk as the institutions that failed. (See “Communication is key for community banks” below.)

Stay tuned

In the coming weeks and months, community banks will need to monitor the regulatory and legislative response to this year’s bank failures and the conditions that caused them. Although new laws or regulations likely won’t affect your bank directly, they may serve as a guide to best practices that can help your bank satisfy regulators and reassure customers.

Sidebar:   Communication is key for community banks

Recent bank failures have created fear among many depositors, so it’s critical for banks to assure them that their money is safe. For community banks, that means educating customers about how their approach to banking differentiates them from the institutions that collapsed in March. They should emphasize their commitments to managing liquidity and interest rate risk and maintaining a diverse deposit base from the communities they serve — rather than concentrating deposits in risky industries or customer segments. Community banks also tend to have low percentages of uninsured deposits.

Now is also a good time to remind customers of the other advantages that community banks have over their larger competitors. Examples include their ability to offer face-to-face engagement and personalized services.

© 2023

Beginning in January 2023, U.S. taxpayers have the green light to leverage many of the tax benefits of the Inflation Reduction Act of 2022 (IRA), which was enacted in August 2022. One of the IRA’s more impactful features — the ability to transfer renewable energy tax credits — is expected to spur clean energy investment in the United States. It is also expected to provide significant tax savings for U.S. taxpayers participating in the new market-like system.

This article provides an introduction to renewable energy tax credits and highlights several key factors that buyers and sellers of these credits should consider. Because of the complexity of this emerging area, taxpayers should consult with their tax advisors before engaging in any related transactions.

Renewable Energy Tax Credits: How Did We Get Here?

Prior to the enactment of the IRA, federal renewable energy tax credit utilization was limited because the sale or transfer of such credits was prohibited. In most cases, developers of large-scale renewable energy projects did not have sufficient tax liability in the short term to utilize federal renewable energy tax credits. As a result, tax equity partnerships became the primary method to extract value from the tax credits generated by these projects.

In tax equity partnerships, a partner with sufficient tax liability would contribute capital to a project and be allocated most of the tax benefits for a certain period. These transactions are complex and often involve a significant amount of legal, advisory and accounting expertise. Tax equity financing remains a valuable tool for project finance, but the new credit monetization options in the IRA provide developers and business owners with additional possibilities.

With the passage of the IRA, certain renewable energy tax credits can now be transferred (sold) by those generating eligible credits to any qualified buyer seeking to purchase tax credits. Through credit transfers, taxpayers have the option to sell credits in exchange for cash as part of their overall renewable energy goals. For certain credits, such as energy storage and solar credits under Internal Revenue Code Section 48, credit transfers in exchange for cash also present an opportunity to simplify project structuring.

The IRA created two new monetization options for certain tax credits: direct pay for tax-exempt entities and credit transfers for traditional taxable entities. Direct pay represents a 100% cash refund in lieu of tax credits. Alternatively, credit transfers create a market-like system intended to bring credit generators and credit purchasers together.

Under the market-like approach, some credit transfer requirements must be kept in mind:

• Credits must be exchanged for cash with an unrelated party
• Cash consideration received by the seller is treated as tax-exempt income
• Cash consideration paid by the buyer is nondeductible
• Credits are limited to a single transfer; a transferee may not resell

Focus Areas for Buyers and Sellers of Renewable Energy Tax Credits

Considerations for Buyers

For credit buyers, the IRA’s credit transfer provisions create an opportunity to purchase renewable tax credits at a discount. For example, at a market price of $0.92 per $1.00 of credit, a taxpayer could purchase $100 million of tax credits for $92 million — and therefore save $8 million, assuming the credits were immediately used to offset taxes. Meanwhile, the sale proceeds improve the economics of clean energy development, potentially supporting the taxpayer’s environmental goals.

Buyers should consult with their tax advisors and perform a due diligence review to confirm that the underlying merits of the credits meet their advertised value. A buyer that purchases what it believes is a 30% investment tax credit, for example, should ensure that the prevailing wage and apprenticeship requirements are satisfied. Otherwise, the buyer risks finding out that the purchased credit is worth less than expected.

Buyers also must be cognizant of who will take on the risk of credit recapture or disallowance if the credit does not meet the necessary requirements. As the direct transfer market develops, buyers may seek indemnity clauses or tax credit insurance as part of the credit transfer agreement.

Considerations for Sellers

Project owners without significant tax liability must decide whether to monetize credits under the new direct transfer rules or use a traditional tax equity structure. Businesses must weigh both options to determine the best path forward for the business and the project.

While the credit transfer market is still developing, projects that provide thorough documentation to substantiate the advertised credit value may earn higher rates from buyers.

Price Discovery

There are multiple variables that buyers and sellers will want to consider in determining the appropriate price of a transferred credit. These factors include:

• The credit type and the underlying technology represented
• The value of the credit being transferred
• The possible inclusion of tax credit indemnity or tax credit insurance
• The project’s location

Transfer Process

For those in the market seeking to sell or purchase credits, early conversations with a trusted tax advisor and legal counsel are beneficial to ensure possible concerns have been addressed.

Before a transfer, sellers must make an irrevocable one-time tax election in the year the credit is generated. Elections must be made by the extended due date of the applicable tax return. It is important to note that the election occurs at the entity level. With the election at the entity level, partnerships or S Corporations must be cognizant of their shareholders’ tax position in deciding whether credits should be sold.

As an added benefit to buyers, any unused credits may be carried back three years or forward 22 years.

Exhibit 1: Clean Energy Tax Credits in the IRA

What’s Next for Renewable Energy Tax Credits?

We expect many taxpayers and clean energy developers to benefit from the IRA provisions enabling the transfer of renewable energy tax credits. In conjunction with the projected increase in clean energy investment in the U.S., a robust credit market will likely develop as well. Despite these advances, it is important to remember that these tax credits are complex and require thorough due diligence and appropriate professional counsel.

 

Written  by Gabe Rubio, Courtney Sandifer and Drew Norris. Copyright © 2023 BDO USA, LLP. All rights reserved. www.bdo.com

 

Arkansas

Beginning at 12:01 a.m. on Saturday, August 5, 2023, and ending at 11:59 p.m. on Sunday August 6, 2023, the state of Arkansas will hold its sales tax holiday allowing shoppers the opportunity to purchase certain electronic devices, school supplies, school art supplies, school instructional materials, and clothing free of state and local sales or use tax. 

Click the link for more information. 

Mississippi

Mississippi’s 2023 Sales Tax Holiday begins at 12:01 a.m. Friday, July 28, and ends at 12:00 Midnight Saturday, July 29.   No sales tax on the sale of clothing, footwear, or school supplies if the sales price of a single item is less than $100. 

Follow the link for more details on Mississippi’s Sales Tax Holiday 

Tennessee

Tennessee’s traditional sales tax holiday on clothing, school supplies and computers is the last full weekend in July.  For 2023, it begins at 12:01 a.m. on Friday, July 28, 2023, and ends at 11:59 p.m. on Sunday, July 30, 2023.

For 2023, Tennessee’s General Assembly has approved a three-month grocery tax holiday on food & food ingredients which begins at 12:01 a.m. on Tuesday, August 1, 2023, and ends at 11:59 p.m. on Tuesday, October 31, 2023. 

Follow the link for the full details of Tennessee’s 2023 sales tax holiday.

Kentucky

*Sales tax holiday does not apply to the state of Kentucky. 

For questions on sales tax holiday information in the states that ATA resides in, reach out to your local ATA representative. 

On May 11, Tennessee enacted H.B. 323, the Tennessee Works Tax Act of 2023, which makes changes to franchise and excise taxes, sales and use taxes, and the business tax. This alert summarizes the most significant provisions and includes links to several notices issued by the Tennessee Department of Revenue (Department) explaining the legislative changes.

Franchise and Excise Taxes

The Works Tax Act makes numerous changes to Tennessee’s franchise and excise taxes that are imposed on corporations, including S corporations, limited partnerships, and limited liability companies taxed as partnerships for federal purposes. The most important changes involve:

• Perhaps the most significant change enacted by H.B. 323 is the phased-in adoption of a standard single sales factor (SSF) apportionment formula. Most Tennessee taxpayers that are not financial institutions apportion net earnings or loss for excise tax purposes and net worth for franchise tax purposes using a traditional ratio based on three factors (property, payroll, and sales) with a triple-weighted sales factor. The Works Tax Act adopts SSF, which will be phased in over three years by increasing the weighting of the sales factor. For tax years ending on or after December 31, 2023, the sales factor is weighted five times; for tax years ending on or after December 31, 2024, the sales factor is weighted 11 times; and for tax years ending on or after December 31, 2025, the SSF will be fully phased in.

The legislation also repeals the SSF apportionment election available to manufacturers effective for tax years ending on or after December 31, 2025. It provides an annual elective apportionment formula using three factors with triple-weighted sales for tax years ending on or after December 31, 2023. The election may be made only if the three-factor formula results in a higher apportionment ratio for the taxpayer and the taxpayer has net earnings rather than a net loss.

• Federal Bonus Depreciation. For assets purchased on or after January 1, 2023, Tennessee will now conform to the federal bonus depreciation provisions in the Tax Cuts and Jobs Act of 2017.
• Standard Excise Tax Deduction. For tax years ending on or after December 31, 2024, H.B. 323 creates a $50,000 standard deduction to reduce net earnings, but not below zero, when calculating the Tennessee excise tax.
• Franchise Tax Base Property Measure. For tax years ending on or after December 31, 2024, H.B. 323 creates an exclusion of up to $500,000 of a taxpayer’s aggregate property value from the real and tangible property measure of the franchise tax base. The $500,000 exclusion does not apply to the net worth tax base measure.
• Tax Credit Carryforward Periods. Tennessee offers various statutory tax credits to new and expanding businesses in some industries (manufacturing, call centers, research and development, etc.) if the business creates new jobs and/or purchases qualifying assets used in the state. The Works Tax Act extends the carryforward period for excess credits from 15 years to 25 years.
• Paid Family and Medical Leave Credit. The bill enacts a new tax credit based on the federal paid family and medical leave credit. Taxpayers may claim the credit for tax years ending on or after December 31, 2023, but before December 31, 2025.

Sales and Use Taxes

For businesses, H.B. 323 makes several changes to Tennessee’s sales and use tax laws. The following take effect July 1, 2024:

• Taxation of the repair of tangible personal property (TPP) or computer software, installing TPP that remains TPP after installation, and installing computer software when (1) the repair or installation occurs outside Tennessee and (2) the seller delivers the serviced TPP or computer software to the purchaser or purchaser’s designee in Tennessee or to a carrier for delivery in Tennessee for use or consumption in the state.
• Repeal of the exemption for magazines and books that are distributed and sold to consumers by U.S. mail or common carrier.
• Repeal of the exemption on the sale or use of direct mail advertising materials.
• Clarification of rules for sourcing some taxable retail products, including sales of TPP and digital goods and services.

Business Tax

The Tennessee business tax is a gross receipts tax on sales of TPP and most services delivered to customers in Tennessee. H.B. 323 makes several changes to benefit smaller businesses and some industries, including:

• Increased Filing Threshold. For tax years ending on or after December 31, 2023, the filing threshold for taxable sales in any individual county or incorporated municipality is increased from $10,000 to $100,000.
• Manufacturing Exemption. Under current Department policy, manufacturers are exempt from the business tax only if sales are made from the same facility where manufacturing occurs. Effective immediately, the location requirement is removed. The Department now considers the cumulative activity in the state to determine whether a taxpayer qualifies for the manufacturing exemption. Further, the exemption is expanded to include sales made from a storage or warehouse facility located within a 10-mile radius of the manufacturing location.

 

Insight

• The Works Tax Act’s phased-in adoption of SSF follows a trend among more than 30 states to apportion income using the SSF method for corporate income tax purposes.
• Taxpayers with material tax credits created over the past 15 years should consider the impact of the extended carryforward period for credit use in conjunction with Tennessee’s adoption of SSF apportionment. Depending on the facts and circumstances, the law changes might also affect balance sheet items (e.g., deferred tax assets). The annual three-factor apportionment formula election should also be evaluated for taxpayers in this position.
• The increase in the Tennessee business tax threshold should benefit out-of-state taxpayers, many of whom are often surprised that such a tax exists in Tennessee. The Works Tax Act’s clarification of the manufacturing exemption should benefit in-state manufacturers.

 

Written  by Scott Smith, Kristen Weeks and Michael Person. Copyright © 2023 BDO USA, LLP. All rights reserved. www.bdo.com

 

The IRS recently released its audit statistics for the 2022 fiscal year and fewer taxpayers had their returns examined as compared with prior years. But even though a small percentage of returns are being chosen for audits these days, that will be little consolation if yours is one of them. 

Recent statistics 

Overall, just 0.49% of individual tax returns were audited in 2022. However, as in the past, those with higher incomes were audited at higher rates. For example, 8.5% of returns of taxpayers with adjusted gross incomes (AGIs) of $10 million or more were audited as of the end of FY 2022. However, audits are expected to be on the rise in coming months because the Biden administration has made it a priority to go after high-income taxpayers who don’t pay what they legally owe. In any event, the IRS will examine thousands of returns this year. With proper planning, you may fare well even if you’re one of the unfortunate ones. 

Be ready 

The easiest way to survive an IRS examination is to prepare in advance. On a regular basis, you should systematically maintain documentation — invoices, bills, canceled checks, receipts, or other proof — for all items reported on your tax returns. Keep in mind that if you’re chosen, it’s possible you didn’t do anything wrong. Just because a return is selected for audit doesn’t mean that an error was made. Some returns are randomly selected based on statistical formulas. For example, IRS computers compare income and deductions on returns with what other taxpayers report. If an individual deducts a charitable contribution that’s significantly higher than what others with similar incomes report, the IRS may want to know why. Returns can also be selected if they involve issues or transactions with other taxpayers who were previously selected for audit, such as business partners or investors. The government generally has three years from when a tax return is filed to conduct an audit, and often the exam won’t begin until a year or more after you file a return. 

Tax return complexity 

The scope of an audit generally depends on whether it’s simple or complex. A return reflecting business or real estate income and expenses will obviously take longer to examine than a return with only salary income. In FY 2022, most examinations (78.6%) were “correspondence audits” conducted by mail. The rest were face-to-face audits conducted at an IRS office or “field audits” at the taxpayers’ homes, businesses, or accountants’ offices. 

Important: Even if you’re chosen, an IRS examination may be nothing to lose sleep over. In many cases, the IRS asks for proof of certain items and routinely “closes” the audit after the documentation is presented. 

Get professional help 

It’s prudent to have a tax professional represent you at an audit. A tax pro knows the issues that the IRS is likely to scrutinize and can prepare accordingly. In addition, a professional knows that in many instances IRS auditors will take a position (for example, to disallow certain deductions) even though courts and other guidance have expressed contrary opinions on the issues. Because pros can point to the proper authority, the IRS may be forced to concede on certain issues.

Contact us if you receive an IRS audit letter or simply want to improve your recordkeeping. © 2023

June brides (and grooms) take note: Marriage alters your tax status and adds a few more to-dos to what’s probably a long list.

If one or both of you change your names, notify the Social Security Administration because their records must match those on your tax returns. You’ll be able to choose whether to file your income tax return jointly or separately each year. Joint filing typically is more beneficial, but not always.

If you both work, you may be pushed into a higher tax bracket or become subject to the 0.9% additional Medicare tax. So look into whether you should increase your withholding by submitting new W-4 forms to your employers. Contact us for help.