Helping small business owners is one of the most valuable ways for putting to good use the knowledge from an Enrolled Agent study course. Recognizing instances of incorrectly claimed expenses and understated revenue is especially important for an EA delivering optimal assistance to entrepreneurs. Enlightened understanding of problems with Schedule C preparation is aided by some recent Tax Court decisions.
An IRS examination of jointly filing taxpayers named Porch revealed that they understated income by approximately $50,000 per year in 2005 and 2006. They also claimed a number of unsubstantiated business expenses. The interesting aspect of this case is that the taxpayers attempted unsuccessfully to avert a penalty by claiming they used a tax preparer who did not sign the return. The under-reported income was blamed on the elderly tax preparer.
The lesson learned is that a non-signing tax preparer is circumventing the law and delivering no value to taxpayers. An Enrolled Agent tax preparer assures accurate work and knowledge of the law. Plus, an EA signature on a completed tax return provides some defense against the accuracy related penalty.
Taxpayers named Esrig made several errors on their tax returns, which were filed over six years late. They either misunderstood the nature of a home office for business purposes or intentionally disregarded the rules concerning this tax deduction. Home offices represent one of the complex areas of Enrolled Agent preparation courses. Mistaken home office deductions are typically quite easy for the IRS to identify.
For Esrig, the particularly troubling elements included deduction for a large fish tank in part of their home that served as a client waiting area prior to meetings. They claimed to have missed obtaining accurate instruction about their deductions and tax filing deadlines because their accountant was in prison for murdering her husband. Lacking any evidence to support their story, the court added penalties to their tax liability.
A real estate broker named Hand attempted unsuccessfully to convince the Tax Court to allow a deduction for flying lessons as a business expense. He was forced to learn in court a fact every EA knows from Enrolled Agent training courses that business education expenses must relate to skills required for an existing profession. Similar results occurred for Mobasher, a taxpayer who obtained a real estate license but worked full-time in a different business. The Tax Court denied deductions on Schedule C of expenses relating to the real estate activity, for which Mobasher received no income and had no evidence he ever conducted.
In another case, a mortgage broker named Cibotti deducted business expenses on Schedule C by claiming he was an independent contractor despite receiving a Form W-2. This normally implies an employee relationship and deduction of employee expenses on Schedule A, subject to exceeding 2 percent of gross income. Surprisingly, the Tax Court agreed with Cibotti based upon his minority ownership in the business and other factors.
Routine jobs for Enrolled Agents entail cautioning business owners about substantiating expenses and reporting all sources of income. In addition, an EA is called upon to evaluate the facts and circumstances of specific arrangements to assure that the business expenses claimed are allowable.
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.