Handling Due Diligence For Refundable Credits

As a tax preparer, you know you're in a competitive business. You have to price your services right to make it work financially.

But if you cut corners on compliance, you can get into real trouble with the IRS. One way this can happen is with failing to meet the due diligence requirements for refundable tax credits.

At Brown, PC, our experienced team of tax attorneys can help you understand your obligations and respond to any IRS issues. We have a proven record of success that we can bring to bear on your situation.

What Requirements Do You Need To Meet?

By the very fact that they are refundable, tax credits like the Earned Income Credit (EIC) are unlike nonrefundable credits or deductions. They not only reduce the amount of tax owed, but often result in substantial refunds.

Because of this feature, the IRS closely scrutinizes refundable credits to prevent tax refund fraud. Income and loss manipulation in order to maximize these refundable credits has therefore become a major Service initiative.

As a paid preparer, you, therefore, have to show you have a process in place for documenting that a taxpayer is legitimately seeking the EIC, the Child Tax Credit or another refundable credit. This means completing and turning in a form 8867, the due diligence checklist.

In short, you can't just take what a client tells you blindly. You have to ask reasonable questions and be prepared to ask follow-up questions on matters such as filing status, number of dependents, income levels and the use of Schedule C. It is also imperative that you document your questions and your client's answers in the client file contemporaneously.

What Are The Consequences For Noncompliance?

When the IRS has identified numerous errors on previous returns, it can subject you to a due diligence audit. This is a broad audit that examines business practices and procedures you use to comply with eligibility requirements for refundable tax credits.

If a due diligence audit determines you didn't meet the requirements, you could be hit with significant financial penalties. These include:

  • A penalty for each return where a tax preparer failed to comply with due diligence requirements ($510 in 2017 but indexed for inflation)
  • A penalty starting at $1,000 for a client return if the IRS determines an unreasonable position was cited to support the amount of tax owed
  • A minimum penalty of $5,000 when the IRS finds reckless or intentional disregard for rules

The client penalty for accuracy-related errors is 20 percent. The IRS could also assess a 75 percent penalty and ban your client from claiming refundable credits for a certain number of years, if the IRS concludes the error was due to fraud.

Depending on your degree of knowledge or wrongdoing, the IRS may also refer you for criminal investigation.

Turn To A Tax Law Firm That Knows This Territory

No matter what your situation, we can work with you to develop an appropriate response that safeguards your rights and interests. Call our office today or complete the online form to learn more from an experienced tax lawyer.

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