Posted by: Lisa Harvey-Cicione, CPA
Don’t panic! You aren’t going to jail. However, you don’t want to ignore it. The issue will not go away on its own. A prompt response to the notice will save you a major headache later on.
Every year the IRS mails out millions of notices. Only a few thousand are audit notices. The balance of the notices are either for missing information or correction of an error. Please note the IRS will not contact you by phone or e-mail. Watch out for fraud and phishing scams from phone calls and e-mails claiming to be from the IRS.
The IRS matches information they receive from banks, brokerage houses, businesses and employers in the form of 1099’s and W-2’s against the information you report on your tax return. When there is a discrepancy, they automatically send you a notice with the computed tax, interest and penalty that would be due assuming their records are correct.
The IRS notice may be correct if you didn’t receive or misplaced one of your documents and it wasn’t reported on your tax return. However, even if you failed to report the missing information you still may not owe the tax. For example, you never received a 1099-B reporting the sales proceeds from stock your brokerage house sold. The IRS will pick up the entire amount of sale proceeds as income without any regard to your cost basis. You probably do have cost basis and maybe even an overall loss. Consequently, you may not actually owe the amount on the notice and could even have the IRS owing you money.
Alternatively, the IRS may be wrong for a number of different reasons and you may not owe them any tax. An example would be if you received a 1099-misc. under your Social Security number and it should have been reported under your business’s EIN. A letter of explanation is required in order for the IRS to adjust their records.
The IRS keeps a record of your tax payments and refunds. Your notice could be as simple as a correction of an error. Maybe you requested the prior year refund be applied to current year tax but the IRS refunded it to you. Then when filing current year you forgot to mention the refund received to your tax preparer and the IRS reduced current year payments by the refunded amount. You may or may not owe any money to IRS if you had an overpayment. In either case, you should inform your tax preparer so he or she can adjust your tax payments going forward.
Therefore, it is extremely important to read your notice, compare it to your tax return, and respond appropriately. You could respond in writing yourself or you may be more comfortable having your tax preparer respond. The most important thing is to respond by date on the notice.