To become a CPA and work in the tax industry an individual is certain to encounter a variety of unusual situations. In particular, a CPA must exercise diligence in assessing circumstances where innocent spouse claims might arise. These measures protect spouses from the tax liability on a joint return that was created by a spouse or former spouse.
Innocent spouse claims often land in tax court. Therefore, any CPA involved in these matters must assure that the tax returns involved are accurately prepared. But more action is required than merely deploying the rules from the tax section of CPA exam courses. When a marital conflict exists, an accountant should caution a spouse about the possibility of filing a separate return to avert any difficulty caused by the other spouse.
A recent case in Tax Court reveals the advice that would have benefited a wife. Unfortunately, she did not learn a vital fact found in CPA exam material. That is, filing a separate tax return when married is the only sure path to avoiding tax difficulty created by a spouse. Farzana Zaher is a dentist who was married in 2006. Her husband, Mohamed Zaher, owned a gas station. Mohamed sold his business in 2006 for a gain of $587,760. After paying off business debt, the remaining $315,000 of sales proceeds was deposited into a joint savings account. No estimated tax payments were made but the funds in the bank were reserved for 2006 taxes.
Following the couple’s separation in November 2007, Mohamed sent Farzana a draft of their joint 2006 tax return requesting her signature. This was how Farzana first learned that the tax return had not been filed by the due date. Mohamed urged Farzana to sign the return for immediate filing with the IRS. He also set an appointment for her with their accountant to discuss the return.
This is where the facts stray from the typical procedure described in CPA classes regarding tax returns. The initial step in tax work is identifying filing status. Given the facts in this matter, the accountant should not have assumed that Farzana file jointly with Mohamed. This was an obvious consideration when noticing the tax due of $63,379 on the joint return. Sound advice to Farzana would include a recommendation to file separately.
Filing a joint tax return is an irrevocable election. Once done, it cannot be undone. Farzana needed this information but did not receive it. As a result of filing the joint tax return, she was hit with the tax liability. She expected Mohamed to pay the tax because she no longer had access to proceeds from the gas station sale. But, Mohamed also no longer had the money. He gave it to various relatives in late 2007, claiming the transfers were loan repayments.
Mohamed did mention in an email to Farzana in January 2008 that he was seeking another accountant to redo the 2006 tax return. But the damage for Farzana was already done. As explained in CPA exam study, a married couple can amend separate tax returns by changing to joint filing, but not the other way around. Sure, a join tax return typically produces a lower tax calculation than the combination of two married filing separate returns. That’s irrelevant to Farzana, who simply needed to avoid joint tax liability with Mohamed relating to his income.
Fortunately, Farzana Zaher prevailed in Tax Court on her claim for innocent spouse relief. Despite this victory, an accountant helping her file a separate 2006 tax return would have saved her substantial attorney fees and years of grief in the court system.
IRS Circular 230 Disclosure
Pursuant to the requirements of the Internal Revenue Service Circular 230, we inform you that, to the extent any advice relating to a Federal tax issue is contained in this communication, including in any attachments, it was not written or intended to be used, and cannot be used, for the purpose of (a) avoiding any tax related penalties that may be imposed on you or any other person under the Internal Revenue Code, or (b) promoting, marketing or recommending to another person any transaction or matter addressed in this communication.