The IRS Examination and
Collection Process

By David G. Blattner

The author, an IRS regional commissioner, provides guidance to practitioners on representing their clients through IRS examination to collection. The viewpoint stresses communication and cooperation.

It's January 15th, and your client has just called. He says an IRS agent contacted him to say she will be auditing his 1993 tax return, including his Schedule C business operations. He wants you to represent him. How can you best help your client?

Before the Audit Begins

Both the IRS and your client want to complete the audit within a reasonable time. You can greatly assist here. Your first step is to immediately complete Form 2848, Power of Attorney and Declaration of Representative, which enables you to represent the taxpayer before the IRS and authorizes you to receive and inspect confidential tax information. Have the client sign it, send it to the agent, and then call her to set a mutually agreeable appointment. The agent cannot contact you or discuss the case until she receives the Power of Attorney.

The agent will cooperate in setting the appointment as long as you do not try to unreasonably delay the start of the audit. Remember, the IRS audits returns year- round, including during the filing season, when you may be very busy. To do otherwise does not make good business sense. If you present well organized and easily accessible records to the agent, she can work independently and will need very little of your time.

When you call the agent, I recommend you ask why your client's return was selected for audit. This will give you an idea of the possible scope of the audit, the kind of records the agent will request, and how long the audit is likely to take. For example, a return randomly selected under the Taxpayer Compliance Measurement Program (TCMP) must be examined in detail and will take much longer than an audit that is part of a project that zeroes in on only one or two specific lines on the return, or one that is initially computer selected through the Discriminant Function System (DIF). DIF is the process through which returns are scored as they are filed at a service center. The higher the DIF score, the more likely there are errors, and hence the more likely the return will be chosen for an audit.

The return may have been selected for audit as part of our new Market Segment Specialization Program (MSSP). Here, examiners develop expertise by studying a given market segment and then develop guidelines for addressing compliance in that segment. A market segment may be an industry, a certain profession, an occupation, or an issue. By having examiners specialize in certain market segments, we may be able to limit the scope and number of audits. We may determine that education, rather than an audit, is the best way to address noncompliance in a market segment.

There may be a published audit technique guide for the market segment. You can request a copy of any of the published guides, which are developed and used by agents when auditing specific market segments. Address your request to Internal Revenue Service, attn: Disclosure Office, 110 W. 44th St., New York NY 10036. The first 100 pages
are free, and additional pages are 15 cents each.

During the Audit

At your first meeting, the agent will ask questions about such things as your client's business, books and records, bank accounts, and living expenses. She will expect you to know the answers to most of the questions and will expect you to promptly get the answers to the few questions you do not know. Do not attempt to go to this first meeting without your client unless you know enough to answer most questions on the spot. This is particularly true if you do not know your client well, have not regularly worked with his business books and records, or did not prepare the tax return. Having your client at this
first meeting will expedite this part of the audit.

The most efficient place to do the audit is your client's business, where the books and records are kept. Agents are required to assess the internal controls of a business and to inspect facilities and assets. This influences the scope of the audit. It is not helpful to have the audit take place in your office, unless the business is so small that working there would disrupt normal activity. In any case, the agent is still required to tour the business. If the agent agrees to conduct the audit at your office, arrange to have all books and records there, readily accessible for her. Also, promptly arrange for her to tour the business premises.

You should quickly respond to requests for information. If you don't understand why the agent is asking for something, question her. Agents are responsible for getting and evaluating the information necessary to make a correct determination about the issue. You may know that alternative records will better satisfy the request. If the alternative records prove to be insufficient, you should honor the original request.

The IRS is reemphasizing the need for examiners to consider the "economic reality" of the taxpayer's situation, rather than just entries on the taxpayer's return. In other words, the agent will be auditing the taxpayer, not just the return, to arrive at the correct tax determination. For example, if a salesperson reports $50,000 gross income, lists expenses of $25,000, has four dependents, lives in an affluent neighborhood, and shows no investment income, the agent would wonder if all income was reported. This does not mean that all cases in which economic reality is considered result in a fraud determination, nor is it always a reason to increase the scope of the audit.

Problems and Delays

Revenue agents rarely disappear, never to be seen again. However, they do occasionally attend training classes and are sent to work in other areas for an extended period. If a long time has passed and you have not heard from the agent, call her. Both you and the agent have an obligation to the taxpayer to finish the audit expeditiously. Delays not only cause your client anxiety, but also cost him money. If the agent continues to delay resolving the case, ask to speak to her manager.

Many tax professionals have told me they don't speak to an agent's manager because they fear the consequences. There is no penalty for this contact and, in many cases, this is where you
can resolve the problem. If you encounter delays or other problems, such as unprofessional conduct of the agent or her refusal to transfer a case out of district (in proper situations), contact the manager.

Revenue agents are required to furnish the name and telephone number of their manager, and managers should be willing to discuss case disputes with you or the taxpayer. If you encounter problems here, you may take the problem to the branch or division chief, and if that fails, to the district director.

When the Audit Is Completed

If you agree with the agent's findings at the conclusion of the audit, advise your client to sign the agreement. If he owes additional tax, encourage him to pay immediately. If he cannot pay the entire amount, arrange for an installment agreement. Do not allow the case to be closed unagreed merely because your client cannot pay immediately. Remember, he is charged interest (and in some cases penalties) until he pays the total amount due.

If you do not agree with the agent's findings, ask to speak with her supervisor. The IRS wants to resolve disputes at the lowest level, and the group manager is your first level of appeal. If you cannot reach agreement here, ask that the case be transferred to Appeals, which is independent of the district office.

Collection

What if your client does not pay his tax, even after he receives several bills? His case is forwarded to the Collection Division.

Dealing with a revenue officer can be intimidating and difficult for tax professionals who do not understand Collection Division procedures. We find that many do not know what happened in the case prior to their being hired to represent the taxpayer after a bill is sent. Many tax professionals frequently deal with the Examination Division and feel that contact with the Collection Division will be the same. It is not.

When a case is assigned to the Collection Division, the tax has been determined and the taxpayer is already delinquent. As an involuntary creditor, the IRS insists on immediate payment. This does not mean that the IRS will not consider inability to pay or the need for an installment agreement.

The best time to start dealing with a revenue officer from the Collection Division is when a revenue agent has completed an audit or when the tax is assessed. This is before the taxpayer has received any notices and before any deadlines have been established. At this point, IRS personnel generally are more receptive to proposals for short-term payment arrangements, or even long-term installment agreements.

After a revenue officer has been working on a case for a long time and phone calls have not been returned or deadlines have been missed, she may not have a positive attitude about the case. It's like the feeling you may have when a client doesn't pay bills on time.

Dealing with Delinquent Cases

When you become involved with a delinquent case, the first thing you should do is to find out where the case stands in the collection process. Many times you, the tax professional, are hired or contacted only after something serious, such as a lien or levy, has occurred. If the taxpayer hires you only after he has failed to contact a revenue officer or other IRS technician or, worse yet, has broken commitments, you are at a severe disadvantage.

Collection personnel will not start over again from "square one." If you become involved with a case at an advanced stage, immediately contact the revenue officer to ascertain the minimum requirements your client must meet before you can start further negotiations. Usually, he will have to be current with all filing and deposit requirements. If he owes more than $10,000 and cannot make full payment immediately, he must also fully disclose related financial information.

You should be up front with the revenue officer and communicate! Communicate! Communicate! In most instances of enforced collection, there has been a broken commitment or lack of contact from the taxpayer or other representative. Never assume the revenue officer will grant an extension of time to pay. I encourage you to send a short written confirmation note to the revenue officer and the taxpayer outlining the terms of any agreements. If you make a commitment for your client that he cannot keep, it is critical that you communicate this to the revenue officer. Make sure your client doesn't miss a deadline without you contacting the revenue officer to arrange an alternative.

Verifying the Amount Due

If you need information to verify the amount owed, you may request a "literal transcript" of account from the IRS employee assigned to your client's account. Send a short written request or call. You will usually receive these within a short time, so it should not be necessary for you to request that your client be granted an extension of time to pay while waiting for the transcript. If levy or seizure actions are pending, the revenue officer may not be willing to delay that activity unless she has substantial doubt about the validity of an assessment.

Installment Agreements

The best advice I can offer for prospective installment agreement negotiations is to be prepared. If your client has unusual or high fixed expenses to pay, leaving less funds available to pay taxes, you should have copies of documents such as payment books, notes, and mortgages for review. While reasonableness of expenses is sometimes subjective, evidence of ongoing payment will help establish that a debt is legitimate. In addition, on payroll tax cases, producing evidence of being current with estimated tax payments or required federal tax deposits is critical to securing approval of an installment agreement.

Offer in Compromise

An alternative payment option is an offer in compromise. Two issues almost always result in summary rejections of submitted offers in compromise. The first is not complying with filing requirements. The rule is simple--if your client has not filed all required returns, don't submit the offer. The second is that the taxpayer has either provided incomplete information or the amount offered does not meet the IRS minimum amount formula.

The instructions for the new Offer-in-Compromise Form 656 (Rev. 9-93) show how to easily complete the forms and compute the minimum amount from which an offer can be negotiated. These forms and formula are different from past practices relating to offer in compromise and can be very useful in getting an offer accepted.

Notice of Federal Tax Lien

Perhaps one of the most misunderstood concepts in this area is the federal tax lien. Many practitioners confuse a levy with a lien. Simply put, a levy is an attachment of money or property, such as wages or bank accounts. It is a private matter between the taxpayer, the IRS, and the receiver of the levy. In most instances it is a one time attachment, except for continuing wage levies. It can be released with a signature and does not impact a taxpayer's credit rating.

A Notice of Federal Tax Lien, on the other hand, has significant, long lasting impact. We file it with either the county where the taxpayer resides or the Secretary of State, and credit reporting companies record this information. A tax lien can significantly affect your client's credit rating and his ability to borrow funds or conduct business. The IRS cannot release a lien until the tax is paid or the statute of limitations for collection expires. Given the choice between borrowing funds to fully pay a tax bill or entering into an installment agreement with a tax lien on file, you should always opt for the full payment. Remember, it is the tax lien that has the most long lasting negative impact on your client's credit reputation.

What if There Are Problems?

If you encounter problems, such as the revenue officer does not provide a requested status report, or if, after diligent efforts, you cannot reach an understanding on how to resolve the case, contact her group manager. Just as at the examination level, there is no penalty for this contact and, in many cases, this is where you can quickly resolve a dispute about the case. Revenue officers, too, are required to furnish the name and telephone number of their manager, and those managers should be willing to discuss case disputes with you or the taxpayer. If you encounter problems here, you may take the problem to the branch or division chief and, if that fails, to the district director. Use this method of informal appeal when there is a legitimate disagreement, not as a routine attempt to get a better deal. In addition to these informal appeals, you may formally appeal rejected offer-in-compromise cases.

The Common Thread

Throughout this discussion, you may have noticed a common thread. The key to successfully dealing with the IRS is communication. You, your client, and the IRS all want to complete the case as quickly and painlessly as possible. We can do this if everyone works together. *

David G. Blattner, CPA, is regional commissioner, Midwest Region, of the Internal Revenue Service.