Tax Return Guidance Update
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Dear NADN/Oryan Victims,
Many of us are not sure what to do at this time with regards to our tax returns. Some of us have begun the process of amending their tax returns with or without professional tax advice. These individuals have shared with us their experiences so far with the IRS in dealing with this matter. Recently the attorneys who are assisting us with the class-action law suit had put us in contact with a tax professional that has extensive knowledge in these matters. In his position as an IRS employee he handled cases like ours. Today he is in private practice assisting others like ourselves with responding to an IRS audit. Here is a summary of the information we have obtained to date.
Disclaimer:
The information provided here is not meant to be a legal opinion of a specific matter. It is intended to provide you with general information about the different options available to you.
General statements made by the tax professionals:
1) You should seek professional tax advice!
2) The IRS "home office" provides guidelines to district examiners and auditors as to how to deal with specific matters.
3) Each auditor has flexibility as how to resolve a specific matter.
4) In many cases where a taxpayer is misled by a promoter, the IRS will try to allow the taxpayer to deduct genuine out-of-pocket expenses. This position seems to be consistent with the current position of the IRS regarding the malls at their website: http://www.irs.gov/businesses/small/article/0,,id=106484,00.html.
5) The IRS is not stating that the entire Schedule C is invalid, only certain deductions.
6) The taxpayer needs to be prepared to demonstrate to the auditor his/her profit motive and reliance on NADN as a financial expert.
7) If your amended return results in additional tax owed, you may also be subject to interest and penalties. Some victims have reported that the IRS only added the interest and not the penalties. Therefore, one advantage of amending your taxes sooner than later is to “stop the clock” on interest accruing.
Option #1 - Audit Lottery NOT RECOMMENDED!
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Do nothing and hope the IRS does not audit you. The statute of limitations is three years from the time of the filing. For example, if you filed your 2001 taxes on April 15, 2002 then the IRS has up to April 15, 2005 to audit your 2001 return. The IRS is "encouraging" taxpayers not to do this by stating that their penalties and interest will most likely be higher if the IRS needs to track them down. If the taxpayer voluntarily amends his/her return then the IRS is likely to be more lenient. The other consideration is that all mall owners should have received a copy of the DOJ injunction letter from Oryan. The injunction letter is referenced on the IRS website and the bankruptcy website. The IRS may take the position that you were given sufficient warning about your returns having inappropriate deductions and if you choose to ignore the warnings then the three year limitation may not apply in your case. The IRS may treat your situation as fraud which allows the IRS to audit your returns beyond three years.
Option #2 – Amend 1040 – Remove Schedule C – Do Not Seek Theft Loss
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Amend all returns by removing the schedule C completely from the returns as if the mall never existed. Some NADN/Oryan victims have done this and still received a small refund or owed only a small amount because NADN had made mistakes on other parts of their return. Don’t assume that the other parts of your return done by NADN are correct. Double check all numbers from your W-2 and other financial statements. For most of us this option will result in penalties and interest. Penalties may be waived if you demonstrate that you did not intend to underestimate your taxes and relied on NADN as a financial expert. Interest is almost never waived. Interest is approximately 6% per year. Sometimes interest is referred to as an underpayment penalty. You may also need to amend your state return.
Option #3 – Follow Option #2 but Seek Theft Loss Using Form 4684 Section A
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This option is also referred to as an I.R.C. 165(c)(3) loss. You would total all of your out-of-pocket expenses for the years in question and apply that total to the year the theft was discovered. For us NADN is in bankruptcy and Oryan has closed for business. Technically, you must wait until you have determined there is no reasonable chance of recovery. In a bankruptcy proceeding that is usually when the bankruptcy is completely discharged which could be years away for NADN. However, the NADN bankruptcy Trustee has reported that the estate has no money left which might allow you to treat tax year 2004 as the year of the loss. The full article is at
http://www.inbusinesslasvegas.com/2004/07/16/feature3.html
On Form 4684 Casualties and Thefts section A there is a $100 reduction and 10% AGI (Adjusted Gross Income) reduction. For instance, let’s say your out-of-pocket expenses are $7,500 for 2001, $3,000 for 2002, and $2,500 for 2003 yielding a total of $13,000. Your AGI from form 1040 line 34 is $60,000.You must first subtract $100 from $13,000 yielding $12,900. 10% of your AGI is $6,000. You subtract $6,000 from $12,900 resulting in $6,900. The $6,900 goes on line 19 of your schedule A that could be further limited by AMT. The higher your AGI the lower the loss amount.
Option #4 – Follow Option #3 but Seek a Profit Loss – I.R.C. 165(c)(2)
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I.R.C. 165(c)(2) losses are losses occurred during the attempted acquisition of business for the purpose of profit. Instead of using form 4684 section A with its limitations, use schedule D Capital Gains and Losses. Schedule D does not have the $100 reduction and 10% AGI reduction. The amount goes on form 1040 line 13a which goes against ordinary income. One drawback of schedule D is that you are limited to a $3,000 capital loss per year which means the total loss of $13,000 in the above example will take 5 years to write off. $3,000 for years 1 through 4 and $1,000 in year 5. At least you can deduct the full amount of your out-of-pocket expenses.
Option #5 – Amend 1040 – Modify Schedule C
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This option is based on the interpretation of the IRS website that the schedule C can stay as long as the inappropriate deductions are removed. Amend all returns that had the mall business by removing all credits and deductions related to the ADA modifications and home business. Only include on the schedule C actual out-of-pocket expenses. For instance, if you actually paid $2,495 for the mall setup plus $3,000 for advertising then your schedule C will reflect these two expenses only for a total of $5,495. Any deductions for a home office will be removed from the schedule C as well as meals, travel, mileage, etc. Any 1099s from the malls are disallowed. Like option #4, the losses go against ordinary income by putting the amount on form 1040 line 12, but you are able to deduct the losses sooner. You “kill two birds with one stone” by deducting your losses while you do your amended return. This option is also based on the interpretation that the loss is a profit loss as in option #4. The main difference between the two options is the timing of the deductions. Do you take the losses in the amended return or wait for the year of discovery to start the $3,000 per year capital loss deduction. Although the goal of the IRS is to obtain the underpayment of taxes from the malls, it is likely that the IRS will allow us to file an amended schedule C for our actual out-of-pocket expenses only.
Appeals Process:
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Options #4 and #5 are reasonable approaches that have been accepted in other situations. If your auditor denies option #4 or #5 you have the option of filing an administrative appeal that is handled by an independent group within the IRS. The next step after the administrative appeal is usually tax court which is probably not worth it in this case.
Amending Your Return Yourself or Using a CPA
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This is definitely a personal decision. It depends on your comfort level with amending your own return and possibly dealing with the IRS directly. You can obtain TaxACT software for prior years for $12.95 for the federal version (includes one free federal e-file) and $12.95 for the State version (state e-file charge is $7.95). See banner ad and text link below for more details (scroll down to the TaxAct banner and links). I found it easy to use. You can use TaxACT to do option #5 and wait to see if you get audited. You may get a letter from the IRS for clarification of your amended returns. If it turns into a full audit then consider getting a CPA. TaxACT comes with plenty of help. If you go the TaxACT route and still have difficulty after trying their help options then send me an email and I’ll try my best to help you.
Just click on the link below.
-- Angry Guy.
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