Huge IRS Bill

Today TaxMama hears from Jeff in Massachusetts, who tells us. “I just received a notice from the IRS for 2007 claiming I owe $35,000 in additional taxes. After picking myself up off the floor, I looked at my 2007 return and realized my mistake was failing to file a schedule D showing that the gain from the nonqualified options that I sold were already reported in my W-2. Should I respond to the IRS with just a letter and some photocopies showing the W-2 and the sale information from the brokerage, or should I actually send a complete 1040X correcting myself for failing to send a schedule D? How does one correct this kind of mistake?”

Dear Jeff,

Feeling a little less shaky now?

What you probably got was a standard CP-2000 letter. IRS generates those after matching up your tax return entries to the 1099 and W-2 and other third-party reports they get. No need to panic. It’s easy to fix.

Since IRS has already sent you a letter asking you about this transaction, there’s no need to file an amended return.

Simply reply to the letter. Include a Schedule D, showing the basis (cost and purchase date) of the nonqualified options. Include some evidence that you were taxed on the income, that it was included in your W-2, to establish that your basis is correct. If the information appears in your copy of the W-2, fine. Otherwise, find the paystub, or payroll report that shows this being added to your wages.

If you have no profit, as is generally the case with these options, you won’t owe IRS any money.

If there is a profit, run the calculations to see what the additional tax will be – and enclose a check. IRS will send you a bill for the interest. Remember, if you have a profit, you will have to amend your state tax return and pay them. After all, IRS will be sending your state a database of all the changes they generated in MA, yours will be among them.

And remember, you can find answers to all kinds of questions about IRS notices and other tax issues, free. Where? Where else? At TaxMama.com

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