So, your clients can't get their act together by April 15th? You know what that means they want extensions. Naturally, they want you to do it without any help from them. That's getting tougher all the time with rules about preparer responsibilities, litigious clients and professional liability insurance. We can't simply sign the automatic extension form and walk away. And why not? Well, according to Healy, TC Memo 1996-260, "A return is considered late if the taxpayer improperly estimates tax on the extension form."1
In Healy, an attorney and his wife filed Form 4868 every year and consistently underestimated their tax liability by 30% to 80%. The Tax Court ruled that the Healys had enough information to make a reasonable estimate of their tax liability by April 15th. Imagine if you'd been the tax professional who prepared their extension.
While the IRS now accepts extensions without payment2, make it clear to your clients that the tax liability shown on Form 4868 must be within reason. If not, the extension could be invalid. Two ensuing consequences: Any pension/KEOGH payments made after April 15th and any elections required to be made on a timely-filed return will not be allowed for 1996.
Often Overlooked Components of Tax Liability
The total tax liability consists of more than just income taxes. Remember to compute the:
These are the hidden taxes preparers often forget when summarizing the client's data. Avoid this problem by entering all the data into the actual tax program rather than a utility. Clearly mark estimated expenses by putting asterisks around the description.
For instance, on Schedule C, enter the total projected business expenses on one of the blank lines on Part V as: ***Business Expenses***, or on Schedule A, line 20: ***All Misc. Expenses***. Enter W-2s and 1099s in the proper format.
One relatively new item is the tax on household employees. Ask the question. They will not volunteer that they have undocumented household employees working for them. Give clients W-7s for each employee with no Social Security Number.
Computing the extension takes a substantial time almost as much time as preparing the tax return. By the time you get done, you'll notice that you have completed 3/4 of the return. When you finally get back to it, two to three months later, you'll have to refresh your memory and spend almost as much time as you did in April. So, it's a good idea to collect the projected tax preparation fee at the time. Then, if the client takes another four months to get the return done, you've been paid for the work you've already done.
Try to establish a firm cut-off date for information to get to you for returns filed by April 15th. My January client newsletter sets the date at March 20th. Any information arriving after that will result in an extension. I set March 28th as the cut-off date for information to arrive if they need an extension. That way, I should have most of the information by about April 10th.
Do a quick comparison. Look at last year's return. If you notice that a bank account, 1099-Div or K-1 is missing, ask if the 1099 is still expected or did they liquidate that asset.
To Sign or Not to Sign
If your calculations result in a balance due, then you may want to consider having the extension form signed and filed by the client, rather than doing so yourself. The client's signature on the Form 4868 proves that the taxpayer was informed of the balance due, thus protecting you from a possible claim for late payment penalties and interest. Assure the taxpayer that it is perfectly acceptable to file an extension showing a large balance due. Unless the extension is filed with an accurate estimate of tax liability, the taxpayer will incur a penalty of 5% per month for late filing if the original return has not been filed by the original due date.
Many taxpayers are afraid to file extensions showing a large balance due. Convince them that without the extension they will face the 5% per month non-filing penalty in addition to the .5% (half a percent) non-payment penalty.
Keep an annual master list of your tax preparation clients. Check off the returns that have been completed. Put a code (like a 1) next to those filing the first extension. Check off the completed returns. Then you have a starting point so you can follow up on the client and remember who needs the second extension. Enter another code (like 2) for the second extension.
While you're busy doing the extensions, remember, the first estimated payment for 1997 is also due. Prepare the ES vouchers for your client based on at least one-fourth of the entire 1996 total projected tax liability.
This is just too much to do at the last minute. EAs generally check many of these things as a matter of course. But when dealing with the pressure of an imminent filing deadline, it helps to have something to look at as a memory-jogger.
Footnotes
1. From Spidell Publishing Inc.'s 1996 Federal Tax Seminar, copyright, Sharon Kreider, CPA, EA.
2. Courtesy of Doug Thorburn, a California EA who got the IRS to institute APEX (automatic paperless extension program). The IRS discovered complications and canceled it (some states, like California, complied with APEX and have kept the program). But the IRS seems to have kept the provision to file the extension without payment.
Eva has also created a fanciful gift registry on the Internet at URL: http://www.mywishlist.com and can be reached by e-mail at taxwriter@taxmama.com
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