Tax Audit Intro:

Different Types of Assessment Notices

Assessment notices are usually sent by the IRS to inform you that you made a math error, were not given credit for all the tax payments you claim you made, used the wrong tax table or form, did not pay the taxes you owe or owe a penalty. The CP series of forms (general assessment notices) is used by the IRS to inform you that your refund is being reduced or eliminated. The IRS can intercept your tax refund and apply it to other taxes you owe, defaults on student loans or nonpayment of child support, to name a few. You may also receive a CP series form general assessment notice to inform you of a penalty for filing or paying late, failing to report all income, overstating credits or deductions on your return or for your failure to make estimated tax payments on a timely basis.

Form CP-2501 - Income Verification NoticeIncome verification notices are generally received when there is a dispute between how much you claimed in income and deductions on your return and the income and deductions reported to the IRS by your employer, banks and brokerage firms. The IRS most often automatically assumes that the W-2s and Form 1099s they have received from the businesses contain the correct information and that you are the one that made a mistake on your return. If the notice you receive is wrong or unclear, you need to contact the IRS. Don't ignore these notices! If you do you will receive another notice billing you for additional tax, interest and penalties.

CP-515 and CP-518
CP-515 is the first, and CP-518 the last, notices received by non-filers informing that a return is overdue. Over 1.8 million of these noticed went out asking why these people didn't file. There are a few lessons to be learned here. First and most importantly, always file your tax returns within the deadlines. If you need more time, request an extension. But never opt to not file at all. That's just asking for trouble. Take the initiative to file late returns before the IRS nabs you. You'll be better off in the long run.

CP-2000 - Notice of Proposed Adjustment for Underpayment/Overpayment
This notice informs you that the IRS is proposing changes be made to your tax return. It assumes that the information that they received regarding your income is correct and that the information you provided on your return is wrong. No questions are asked and you are billed for additional tax and interest. If you fail to report all of your income, you can expect to receive either a CP-2501 or CP-2000 within 12 to 18 months after you filed your return.

Backup Withholding Notice
If you failed to furnish a payer of taxable income with your social security number you may be subject to the backup withholding system. Likewise, if you failed to report interest and dividend income on your tax return, backup withholding can also be started. If the IRS determines that backup withholding is in order, the payer is instructed to withhold taxes at a rate of 31%. Backup withholding usually targets interests and dividends, stocks and bonds and annual royalties. Other payments are subject to withholding if you do not provide a payer with your social security number. If you get hit with backup withholding, file all delinquent returns, start reporting all your income or pay what you owe. If you do, the IRS will automatically stop the withholding on January 1 as long as everything is in order by October 15 of the prior year.

There are a few circumstances under which you may be able to stop backup withholding:

  1. You did not underreport your income
  2. You did underreport, but have since paid additional tax, interest and penalties
  3. The withholding will cause you unnecessary hardship, and it is probable that the underreporting will never happen again.

Form 6355 - Worksheet to Determine Withholding Allowances
If you claimed more than 10 withholding exemptions on your W-4, or if you earned more than $200 per week and claimed an exemption from all withholding, your employer must submit your W-4 to the IRS. If the IRS then determines that you overstated the amount of exemptions you are entitled to take or are not eligible to be exempt from tax withholding, then you will receive a Form 6355 Worksheet to Determine Withholding Allowances. This form asks you to explain why you believe you are eligible for the extra exemptions you claimed. The IRS then reviews this form. If they determine that you are not entitled to the number of exemptions you have previously been taking, they will notify your employer to disregard your W-4 and to start withholding tax based on the number of exemptions the IRS has determined is correct for you. If you do not have a reasonable basis for the number of exemptions you had claimed, the IRS can slap you with a $500 penalty. However, if there it was a simple error or honest mistake which caused the discrepancy, the penalty will not be enforced.

Form 668(F) - Federal tax lien notice
When you neglect or refuse to pay the taxes the IRS demands is owed, a statutory lien automatically goes into affect. A federal tax lien covers all of a taxpayer's property, including automobiles, real estate, bank accounts and personal property. Upon payment of the taxes owed, you should receive Form 669-B, Certificate of Discharge of Property for Federal Tax Lien Under Section 6325 of the IRC. The IRS is required to release the lien within 30 days after payment.

Keep in mind - once a lien has been filed against you, credit agencies pick up on it. Your credit is then marked as lousy and the lien, even if paid, will remain on your credit history for seven years.

Form 668-A (c) - Property levy notice
This notice is sent to inform you that the IRS is coming to seize your property and gives you 30 days to prepare for the eventuality. This notice of levy is usually a last ditch effort by the IRS and they only use it after they have exhausted all other collection possibilities. There are some assets that are exempt from being levied:

  • Your principal residence - unless ordered in writing by a US district court judge.
  • Property used in your business - unless approved by a district director or an assistant district director, or if the collection of taxes is in jeopardy.
  • 85% of unemployment benefits
  • Tools and books valued at up to $3,125 if related to taxpayer's trade or business.
  • Schoolbooks
  • Clothing
  • Court-ordered child support payments
  • Furniture and personal affects totaling $6,250.
  • 85% of worker's compensation and welfare payments
  • Military service disability payments

Form 668-W (c) - Notice of Levy on Wages, Salary and Other Income
This notice is to inform you that your wages are going to be seized. It is a continuing levy, meaning it applies to all wages, salaries and commissions owed, as well as all future wages, commissions and salaries. However, part of every taxpayer's wages is exempt from levy. This exemption is calculated based on the taxpayer's standard deduction plus the number of exemptions the taxpayer is entitled to, divided by the number of weeks in a year. For example, a married taxpayer with four deductions (husband, wife and two children) would compute the exempted wages as follows:

Standard Deduction - $7,200
Exemptions (4 * $2,750) $11,000
$18,200 / 52 = $350 per week

You must next inform the IRS as to your wage exemption amount by filing Form 668-W(c), Part 6, Statement of Exemptions and return it to your employer to be sent out to the IRS. If you do not fill this out, your employer will be required to compute your exemption as married filing separately with one exemption; which means your exempted wage amount will work out to only $122 week! So do not forget to fill this form out or you will be sorry!