Sources of Tax Confusion

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Confusion often reigns in the tax prep business, but the two sources that are supposed to help you find answers – your clients and IRS tax forms – produce a special fog all their own.

Here’s a rundown of the biggest befuddlements, courtesy of members of the National Association of Enrolled Agents, the Latino Tax Professionals Association and the National Association of Tax Professionals.

  • Confusion forming. The list runs long regarding indecipherable IRS paperwork. CPA Jim Perkins gives his nod to the 1031 exchange Form 8824, while preparer David Lopez said, “The ACA program and 1099-A and C were pretty confusing at first.” Preparer Andres Santos said that one of the most complex forms for him to learn “was the AMT Form 6251 to determine if some of my clients owe any of this tax. The form has 54 steps and the instructions are more than 12 pages long. And some taxpayers must also complete the prior-year minimum tax credit IRS Form 8801.”
  • Form 8889. Sometimes using this form for health savings accounts is enough to make you sick. “The first time we had to deal with this, it took an hour of trial and error to get the form to accept the proper amount of the contributions, and to treat the draws correctly as tax-free since the funds were used for legitimate medical expenses,” said Eva Rosenberg, an Enrolled Agent and blogger at TaxMama.
  • HSA audits. While we’re on the subject, EA Rosenberg recalled when one of her clients got audited on HSA expenses. “Naturally, it had to be one who is totally panicked,” Rosenberg said. “The audit was because she never told us that she had drawn money but the IRS was notified via the 1099-SA – that she didn’t give us. So we had not even included the 8889 in her return.”
  • The FBAR. Fans of Saving Private Ryan (and most combat veterans as well) remember the army acronym for a situation that is messed up beyond recognition. Geni Whitehouse, CPA, called the aptly named Foreign Bank Account Form, “FuBAR.” “Its own deadline, separate filing system and huge penalties if not filed correctly,” Whitehouse said.
  • Software versus clients. Preparing returns with a combination of software and clients’ wacky tax habits can become an education in itself. EA Eva Rosenberg had a problem with 8863 last year. “One of our clients had a daughter who ended up with some taxable portion of the withdrawal from a 529 that resulted in a penalty,” she said. “We couldn’t get our software to pick it up on the parents’ return. We had to override and compute the excess withdrawal manually. It would have worked in the software if the income had been reported on the child’s return, but she wasn’t filing one.”
  • Social Security taxability. Whilst wandering among the “many areas of the tax law that are very confusing,” according to EA Andrew Stadler, scads of taxpayers seem to think that once they reach age 65 Social Security benefits are no longer taxable. “Many taxpayers don’t realize [benefits are] taxable when they start receiving the benefits.”
  • Recapturing depreciation. They never know what they don’t know. “A high percentage of small-business owners and rental property owners do not understand, do not comprehend recapturing of depreciation when they sell a depreciable asset,” said EA Stadler.
  • Form 8621. This form, a.k.a. “Information Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund,” is so confusing “that even after five years of dealing with it and attending two very expensive legal courses on passive foreign investments and how to prepare the tax form, it still takes a significant amount of time to prepare,” said EA Judy Coker. “Even if your software has the form, you may still have to prepare spreadsheets to attach to the return to support your calculations.”
  • Look ma, no records! Tony Martinez, EA, had a client walk into his office claiming to own a mechanic shop – a proclamation that constituted the extent of this client’s proof. “He approximated his income at $20,000 and his expenses at $3,000,” Martinez recalled. “He just wanted me to do the return with no records. Weird.”
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