Tighter IRS scrutiny of preparers and returns, staffing issues and a stagnant economy are facing tax professionals as they ready their practices for a new filing season.

"There's been a complete deadlock in tax legislation," observed Alan Straus, CPA, JD, a New York-based practitioner. "Returns this year will reflect the bad economy - more short sales and foreclosures, and forgiveness-of-debt issues. I've had a number of them. The fact that they came up in 2011 means that we have to report them now."

Straus explained that some of the issues this year could get quite complex.

"Clients come in and say, 'I got this interesting letter from the IRS that says I have $300,000 of income from cancellation of indebtedness - what does that mean?'"

Aside from debts cancelled in bankruptcy or discharged while the taxpayer is insolvent, there is an exclusion for qualified principal residence indebtedness during the years 2007 through 2012. To qualify, the cancelled debt must have been secured by, and incurred in the acquisition, construction or improvements of, the principal residence.

"I'm anticipating and experiencing a highly increased level of IRS scrutiny," said Alan Boress, CPA, an Orlando, Fla.- area tax practitioner and marketing expert. "The IRS is scrounging for money in ways that they've never done before. They've greatly increased the number of audits on self-employed and rental property owners. They're delving down deeper, to lower levels of income than they have in the past where they only concentrated on high-net-worth individuals. They're looking for reporting errors and tax abuse."

Boress said he expects more of this clients to opt for bankruptcy.

"More of my clients will lose their homes, with cancellation-of-debt issues. If it's rental property and they can show that they're insolvent, they can fill out Form 982 [Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment)]. This is the accumulated pain of the economy not recovering," he explained. "Three fourths of my business clients were in construction-related businesses, and now they're out of business."

WEIGHTY ISSUES FOR PREPARERS

There may be a shortage of tax preparers this year as a result of the new preparer registration requirements, fees, and continuing education requirements, predicted Chuck McCabe, chief executive officer of Virginia-based Peoples Income Tax. "Some preparers are intimidated by the new regulations, as well as the fees, so some people will be dropping out of the profession and will have to be replaced," he said.

The IRS has mandated a 120-question preparer competency test as well as 15 hours of CPE annually for preparers who are not CPAs, attorneys or enrolled agents. (See "Preparers weigh in on PTIN," page 35.)

"Between now and December 2013 [the deadline for taking the preparer exam] we'll see an exodus of preparers who don't want to take the test. The industry has a significant percentage of elderly tax preparers, and they seem to dislike the testing requirement."

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