Some folks just don’t like extensions. Maybe they want their refund NOW. Maybe they have never extended their return before, and they think it is somehow against the rules. Some people believe an extension invites the IRS to come in and audit them. And some people think they are just so special that they can bring in a complex return missing K-1s on April 10th and the preparers should just drop everything and get them filed somehow.
There isn’t much to do for the last category, except perhaps medication, or a thrashing by a crazed sleep-deprived preparer, but for more sensible folks, a basic understanding of extensions might help.
Extensions aren’t against the rules; the rules specifically provide for them. Even in simpler times, tax administrators knew that it isn’t always possible for a busy person to put together all of the pieces of a tax return by April 15.
You still should pay up. While extensions give you more time to file your tax return, they don’t give you extra time to pay. The tax law asks you to estimate your tax liability and penalizes you if you don’t have at least 90% of your taxes paid in by the April 15 deadline; the penalty is 1/2 percent per month.
Why bother with an extension if I can’t delay payment? Probably the most important one is that if you are short of cash, the penalty for late payment on a return that you didn’t bother to extend is 5% per month — ten times the penalty for late payment on an extended return. It forces you to at least take a stab at guessing your liability, helping you identify what pieces you have to gather to complete your extended return. It also keeps you in compliance, and once you stop filing on time, it can be a hard habit to break.
But won’t it get me audited? There’s no evidence that an accurate extended return filed during the extension period is any more likely to be audited than it would be filed on April 15. The IRS selects returns based on what’s on them, now on whether they are extended.
There’s plenty of evidence that returns with errors are more likely to get extra IRS attention. A return thrown together at the last minute is more likely to have errors than an extended return done during normal working hours by somebody who’s had some sleep. For what it’s worth, I have extended my own return every year since 1991 with no IRS examination (knock wood).
How do I extend? You file Form 4868 either on paper or electronically, along with any necessary payment, by April 15. The IRS has more details here. It’s common to pay in enough to also cover your first quarter estimated tax payment with the extension. It gives you some cushion in case you find more 2013 income while completing your return, and you can apply your return overpayment to your 2014 estimated tax when you do file your 2013 1040.
States have their own rules. Iowa automatically extends your return without the need to file an extension form if you are at least 90% paid-in by the April 30 due date. If you need to send them some money to get to 90%, you send it with Form IA 1040-V.
Our series of 2014 Filing Season Tips goes right through April 15. Check back tomorrow for another one!
Russ Fox, Bozo Tax Tip #3: Be Suspicious!
Belief in the Tax Fairy peaks at tax time. The Tax Fairy is that magical sprite who will make all of your taxes go away painlessly while your sucker friends still send checks to the tax man. It’s amazing what Tax Fairy adherents will believe. Consider a Californian who worked as a software consultant. He was put in touch with a “Tax Doctor” (my emphasis):
Early in 2006 petitioner’s friends recommended that he talk to the “Tax Doctor Corporation” (Tax Doctor) operated by a person representing himself to be Dr. Lawrence Murray (Murray). Petitioner spoke with Murray and members of Murray’s staff. Petitioner’s discussions with Murray and his staff consisted mostly of “a bit of a sales pitch”. They explained how they would handle his tax return preparation, what the tax savings would be, and the “structure” they would use.
Murray proposed setting up two corporations and preparing petitioner’s individual and corporate Federal income tax returns. Murray explained to petitioner that one corporation would be “operational” and the other would focus on “management”. Petitioner was unsure at trial which corporation was the operations entity and which was the management entity. Under the agreement with Murray petitioner would pay the Tax Doctor, as a fee for setting up the structure, the amount of the tax savings generated by the use of the structure.
What could go wrong?
His C.P.A. told him that she was willing to incorporate his business activity but she would not do what the Tax Doctor had proposed because it was very aggressive. Petitioner, despite the advice of his C.P.A., decided to accept the proposal of the Tax Doctor.
I don’t need a CPA, I have a Tax Doctor!
Petitioner filed his 2006 Form 1040, U.S. Individual Income Tax Return, showing taxable income of zero. Nev Edel, one of the corporations the Tax Doctor formed for petitioner, filed a Form 1120, U.S. Corporation Income Tax Return, for the fiscal year ending (FYE) November 30, 2007. Nev Edel reported gross receipts of $285,785, total income of $291,669, and total deductions of $295,214. The largest single deduction was $237,600 for “contracted services”. Smoge Corp., the other corporation the Tax Doctor formed for petitioner, filed a 2006 Form 1120S, U.S. Income Tax Return for an S Corporation. Smoge Corp. reported total income of $186,640 and total deductions of $188,644. The largest single deduction was $172,166 for “contracted services”.
Somehow things went awry.
Murray was prosecuted and convicted in 2010 of Federal crimes associated with the preparation of his own returns and the returns of others.
This presumably led to IRS attention to our consultant’s returns, and a big assessment. The taxpayer tried to avoid penalties because he relied on the Tax Doctor in good faith. The Tax Court thought otherwise:
The advice of the C.P.A., who had no financial stake in the outcome of petitioner’s return positions, should have put petitioner on notice that additional scrutiny of Murray’s advice was required.
The moral? If your tax professional, who does this for a living, says something is bogus, they just might be right. And there is no Tax Fairy.
Cite: Somogyi, T.C. Summ. Op. 2014-33.
William Perez, Six Things to Do Before April 15th
Kay Bell, What are ordinary & necessary business expenses? It depends
TaxProf, The IRS Scandal, Day 337. More a boatload than a smidgen today.
That’s OK, you can just send me a gift card. Christopher Bergin, The Gift That Is Lois Lerner (Tax Analysts Blog):
Something bad happened here. And however bad her behavior, the problem isn’t Lerner. The problem is a culture that allows what she did to continue and that probably allows behavior that’s much, much worse.
Andrew Lundeen, What Could Americans Buy with the $4.5 Trillion They Pay in Taxes? (Tax Policy Blog). A nice gift card, perhaps.
TaxGrrrl, House Committee Votes To Hold Lerner In Contempt, Others Push For Criminal Prosecution
Joseph Thorndike, How Dave Camp’s Failure Might Be Michael Graetz’s Victory (Tax Analysts Blog)
Peter Reilly, Clergy Out In Force To Defend Their Housing Tax Break
Sports Corner: David Cay Johnston vs. Tax Girl on Twitter: PLACE YOUR BETS (Going Concern)