The Internal Revenue Service (IRS) now handles all new contact by mail, and while many of their letters look the same, there are key distinctions that should dictate your response.
There are four basic IRS notice types, according to former IRS insider James Pickett. Understanding which of those four you have received reveals important clues to: the type of examination you can expect, the appeal options at your disposal, and any looming penalties. Pickett walks you through these four letters—and offers expert guidance on how to respond to each—in his Eli Financial webinar, “How to Handle IRS Notices and Letters—Some Important Considerations.”
Don’t take IRS correspondence lightly. You must read each letter carefully to make sure you understand just want the IRS is trying to tell you—and, importantly, to figure out which of the IRS appeals procedures you should prep for.
4 Types of Correspondence
Let’s take a closer look at the four types of IRS correspondence you can expect to receive. The letter types, according to Pickett, are:
- Collection Notice: The agency sends this computer-generated notice when there is a balance due, explains taxation lawyer David W. Klasing. But the letter will vary slightly depending on the situation. The IRS sends CP-14 when you owe money on unpaid taxes, and it sends CP-14H when you owe money on an unpaid shared responsibility payment.
CP-14, by far the most common agency communication, includes instructions on how to pay. The follow-up notice is CP-501. A number of letters noting further unpaid balances may follow.
- Examination Notice (or Audit Letter): The agency sends this letter to inform a taxpayer that it has selected a specific income tax return for examination. In other words, an audit will take place. The notice contains four sections, according to Community Tax, that explain: why it’s important to provide the documents requested, what to expect in the examination, who can attend the exam, and what happens if the taxpayer doesn’t respond.
Note: Remind your clients that receiving one of these doozies doesn’t necessarily mean the IRS smells foul play. In fact, the IRS says, many exams result in taxpayers actually receiving refunds.
- Penalty Notice: The penalty notice details what the taxpayer owes as a result of a finding, failure to pay, or the accrual of interest. As far as those payments go, interest is totaled at the federal short-term rate plus 3%, while the failure-to-pay penalty is one-half of 1% for each month, or part thereof, up to 25%, of the amount of tax that remains unpaid from the due date until it’s paid in full. The failure-to-file penalty is usually 5% of the tax owned per month that a return is late, up to a max of 25%.
Like to bargain? It is possible to negotiate down the money due, but the IRS agent you or your client are working with has full discretion here. And the process to reduce back taxes owed can take time—as in years, says Entrepreneur writer Roni Lynn Deutch. To get started, fill out Form 843.
- Return Filing Notice: This notice can inform taxpayers about math errors, non-filing problems, and the substitute for return (SFR) process—that’s where the IRS simply comes in and files the return itself. When it comes to a math error, says the Journal of Accountancy, the IRS could be sending notice of more money owed or that a refund is in order.
As with other notices, the taxpayer has a set amount of time (60 days) to respond. If money is due, the agency can start collecting either when the taxpayer agrees with the notice or after 60 days. A taxpayer who disagrees can request that IRS abate the amount. Important: Note that the agency is not compelled to inform the taxpayer of the right to request an abatement.
As Picket notes in his webinar, “How to Handle IRS Notices and Letters—Some Important Considerations,” each letter requires a specific response and may trigger one of several timelines to adhere to. So understanding the letter your client has received is the first step to setting a course of action.
