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socrateaser
socrateaser, Attorney
Category: Business Law
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Experience:  Retired (mostly)
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We formed an LLC in California with the intent to build a preschool.

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We formed an LLC in California with the intent to build a preschool. We hired a CPA to do our partnership tax returns (our LLC is based on partnership) for 2011 and 2012.
Since I know nothing about partnership taxes I didn't review the tax returns. Our CPA had deducted several expenses some of which should have been capitalized. This resulted in our K1s showing these losses. In May, my partner hired another CPA to review the tax returns and found several errors in the tax returns prepared by our CPA. I was the TMP and I had signed the original tax returns. I immediately told my partner that we should amend our tax returns as I thought it's good to take the conservative approach. We amended our tax returns in July.

My partner is extremely upset with me since I didn't review the returns before signing them. He is also saying that I must have asked our CPA to show more losses, which is completely baseless.
I heard that the IRS sent a notice asking us to pay $50K as penalty. My partner hasn't given me a copy of the notice. I just heard this through his wife who was screaming that I am personally liable to pay the penalty. I am scared if my partner can take legal action against me for this. What action should I take?
Submitted: 11 months ago.
Category: Business Law
Expert:  socrateaser replied 11 months ago.
Hello,

First, you need to get a copy of the IRS notice, so that you know exactly what's going on.

Second, you can hand the penalty notice to the former CPA and tell him/her that unless he/she takes care of this little problem, that you will be forced to bring a malpractice claim against him/her.

You can also file a complaint with the California Board of Accountancy (CBA) -- however, you cannot threaten to file a complaint unless the CPA pays the penalty. To do so may be prosecuted against you as criminal extortion.

If you decide to file a complaint with the CBA, the Board may be able to "encourage" the CPA to pay the penalty as a means of avoiding a serious suspension of his/her license. However, the CBA cannot force the CPA to pay. Only a court can do that, via a successful malpractice lawsuit.

You can also complain to the IRS (Form 14157). However, if you complain to either the IRS or to the CBA, the downside is that the CPA loses his/her license, and that could make it very difficult to pay your damages. So, in practice, it's usually better to hire a professional malpractice attorney to threaten legal action against the CPA and then hopefully settle with the CPA's liability insurer.

If the CPA has professional liability insurance, then the insurance must generally pay, which would be the easiest means of dealing with the problem. However, many practitioners don't carry insurance -- they just take their chances. So, there's no assurance that you can recover via insurance.

Those are the options. If you need a link to any of the resources that I have described above, please let me know and I will be happy to provide.

Also, please let me know if my answer is helpful. And, thanks for using justanswer.com!
Customer: replied 11 months ago.

I have several issues. My relationship with my partner has strained considerably due to these tax issues. He hasn't given me a copy of the IRS notice and so I have no idea what's in there. The IRS notice must have gone to his home address. What option do I have to get a copy of the notice?


 


Since I was the TMP(tax matters person) for the LLC when I signed the tax returns, he has been blaming me and even hinting that I must have worked with our original CPA to show more losses. This is completely baseless and I haven't told him to show more or less losses. I trusted him completely.


 


Since we voluntarily amended the tax returns, can IRS still assess penalty on our original returns that had errors?


 


 

Expert:  socrateaser replied 11 months ago.

I have several issues. My relationship with my partner has strained considerably due to these tax issues. He hasn't given me a copy of the IRS notice and so I have no idea what's in there. The IRS notice must have gone to his home address. What option do I have to get a copy of the notice?

 

A: If you are the person who signed the tax return, call the IRS and ask for a copy of the notice. The customer service rep can probably tell you what the account status is over the phone. Of course, the federal government is currently "shut down," and I don't know if there are any IRS nonessential personnel at work today. So, you may have to wait until Congress gets off its collective a** and passes a continuing resolution. But, ordinarily, you ought to be able to get the info you need fairly easily.

 

If you meet resistance, you can contact the Taxpayer Advocate Office and request further assistance.

 

Since I was the TMP(tax matters person) for the LLC when I signed the tax returns, he has been blaming me and even hinting that I must have worked with our original CPA to show more losses. This is completely baseless and I haven't told him to show more or less losses. I trusted him completely.

A: Your partner would be crazy to side with the CPA. You both should be joining together to sue the CPA -- not fighting between yourselves. That's practically guaranteed to give the CPA a defense to the lawsuit.

Since we voluntarily amended the tax returns, can IRS still assess penalty on our original returns that had errors?

 

A: The penalty is fixed when the error is made. You must either prove that there is no error, or pay the penalty. One of the reasons why I believe your first action must be to get a copy of the IRS notice is because a $50,000 penalty would generally mean a huge error on your return. I'm betting that your partner is severely inflating the penalty portion of the notice. What is probably happening is that your tax liability has increased, so you must pay the additional tax, plus a proportionate penalty.

 

I'll bet that about 75% of the $50,000 is probably the unpaid tax, not a penalty. You would have owed the tax, regardless of any penalty, so the true amount at issue in the notice is that 25%. Which is not exactly a great thing, but it you were being assessed a $50,000 penalty, it would probably be accompanied by a $250,000 tax bill.

 

Get a copy of the notice, or find out what you're really being charged, so that you know what's really going on here.

 

Hope this helps.

Customer: replied 11 months ago.

 


 


>>A: If you are the person who signed the tax return, call the IRS and ask for a copy of the notice. The customer service rep can probably tell you what the account status is over the phone. Of course, the federal government is currently "shut down," and I don't know if there are any IRS nonessential personnel at work today.


 


If the shutdown extends, will they extend the deadline to pay the penalty?


 


>A: Your partner would be crazy to side with the CPA. You both should be joining together to sue the CPA -- not fighting between yourselves. That's practically guaranteed to give the CPA a defense to the lawsuit.


 


Yes, you are correct. Though my partner is not completely taking the CPA side, he is certainly blaming and threatening me for filing incorrect tax returns. I am kind of scared if he will sue me for this. What steps should I take? Just wait for the lawsuit or take some proactive action?


 


>>A: The penalty is fixed when the error is made. You must either prove that there is no error, or pay the penalty. One of the reasons why I believe your first action must be to get a copy of the IRS notice is because a $50,000 penalty would generally mean a huge error on your return. I'm betting that your partner is severely inflating the penalty portion of the notice. What is probably happening is that your tax liability has increased, so you must pay the additional tax, plus a proportionate penalty.


 


This is for the LLC (partnership ) and so it's not taxed at the LLC level.


Yes, the error (expenses deducted instead of capitalizing) was huge - $40K for 2011 and $160K for 2012. But the amended tax return fixed this with less than $5K for each of the years. My guess is that IRS may have imposed negligence/fraudulent penalty of 25% on the total of $200K. This is just my guess.


My question is since we have amended our LLC taxes (and also our personal taxes) why would IRS levy penalty on our original tax returns, which we know are incorrect?

Expert:  socrateaser replied 11 months ago.
Before I answer your new question, would you please tell me if my answers have been helpful?

Thanks in advance.
Customer: replied 11 months ago.

Yes

Expert:  socrateaser replied 11 months ago.

Thank you for your confidence.

If the shutdown extends, will they extend the deadline to pay the penalty?

 

A: No one knows the answer to this question. However, based upon the manner in which the IRS deals with filing deadlines, I would imagine that if your ability to pay was impaired by the shutdown, then the deadline would be extended to the day after the shutdown ends.

Yes, you are correct. Though my partner is not completely taking the CPA side, he is certainly blaming and threatening me for filing incorrect tax returns. I am kind of scared if he will sue me for this. What steps should I take? Just wait for the lawsuit or take some proactive action?


A: I would suggest that you and your partner need to meet jointly with a professional malpractice attorney. By trying to holding you liable, your partner is effectively guaranteeing that the penalty will not be reduced. You need to each be able to testify that you reasonably relied upon a competent tax professional in preparing an unambiguously complicated tax return, where you and your partner were engaged in a startup business, and your knowledge of complex business tax matters was practically nil.

All of this, of course, assumes that the CPA made the errors that you allege. But, that's something that would have to be determined by a court, after discovery of all of the relevant facts.


This is for the LLC (partnership ) and so it's not taxed at the LLC level.


A: Not a question, so I have no comment.

 

Yes, the error (expenses deducted instead of capitalizing) was huge - $40K for 2011 and $160K for 2012. But the amended tax return fixed this with less than $5K for each of the years. My guess is that IRS may have imposed negligence/fraudulent penalty of 25% on the total of $200K. This is just my guess.


A: If true, then that just makes the first CPA's allegedly negligent return preparation an even bigger deal. You need to try to reestablish communication with your partner, and stop fighting with each other.

 

My question is since we have amended our LLC taxes (and also our personal taxes) why would IRS levy penalty on our original tax returns, which we know are incorrect?

A: The accuracy related penalty will not be imposed, if a taxpayer shows that there was reasonable cause for the underpayment and that the taxpayer acted in good faith (IRC 6662(c)). For a discussion of the legal definition of "reasonable cause," see Treas. Reg. 1.6662-3(b)(3).

Hope this helps.

Customer: replied 11 months ago.

A: The accuracy related penalty will not be imposed, if a taxpayer shows that there was reasonable cause for the underpayment and that the taxpayer acted in good faith (IRC 6662(c)).


 


Are you referring to the personal tax returns? For the LLC I guess there is no taxes.

Expert:  socrateaser replied 11 months ago.
Yes, I'm referring to personal liability. The LLC pays no federal tax. Everything passes through to each individual partner.

Hope this helps.
Customer: replied 11 months ago.

I have already paid my taxes, interest and penalty on my personal returns after amending them. I applied for abatement request for refunding the penalty.


The question I have is on the LLC tax returns which were amended.

Expert:  socrateaser replied 11 months ago.
It may be that your partner was issued a Form 8082, Notice of Inconsistent Treatment or Administrative Adjustment Request (AAR) -- which only affects your partner -- assuming that he/she failed to amend his/her personal income tax return.

The negligence penalty only applies to the underpayment of tax, and then only if the penalty is assessed before the taxpayer amends his/her return. So, if you amended your return, and your partner did not, then that could make your partner pretty upset. Regardless, it's still up to the CPA to correctly prepare the tax return, and your partner's relief is tied to reliance on the CPA's preparation. So my answer remains correct as to the resolution of the matter.

Hope this helps.
Customer: replied 11 months ago.

I am reasonably sure my partner amended his personal tax returns (because of amended partnership tax returns). But he said he didn't pay penalties as he wanted IRS to calculate the penalty, if any.


 


For the partnership returns, can IRS assess fraudulent penalty due to the large errors on the original LLC return?

Expert:  socrateaser replied 11 months ago.

The answer is "yes," but it's complicated, because only "inside basis" transactions are subject to penalty assessment. Thereis a thorough discussion in FIDELITY INTERN. CURRENCY ADVISOR A FUND v. US, 747 F. Supp. 2d 49, 236 (USDC MA 10/18/2010). This is a very long legal opinion; scroll down to the section beginning with the heading, H. Accuracy-Related Penalties.

 

Hope this helps.

socrateaser, Attorney
Category: Business Law
Satisfied Customers: 34092
Experience: Retired (mostly)
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