By: Martin M. Shenkman, CPA, MBA, JD
Avoid an Estate Tax Audit
Money Matters Radio – Estate Planning Checklist
Introduction/Overview: No one wants to have an estate tax audit when a loved one passes. Plan smart to minimize the risk (and to cut the cost and damage if it does happen).
Consider the following tips:
√ Don’t use an out of date tax form. This will pretty much assure IRS attention. Seems rather lame, but according to the IRS, not uncommon.
√ Complete both the extension of time to file and the extension to pay tax on Form 4768 when you file it.
√ Attach a copy of the actual fully signed will and trust of the decedent to the estate tax return. If you leave out of the package key supporting and back up documents and materials the IRS has to come back to you for more info.
√ Don’t forget to include the complete appraisal for assets for which appraisals are required. A common goof is to submit the summary of the appraisal without the full report, or to enclose the complete valuation report but leave out the exhibits the report refers to. And don’t fudge it with a 1 pager from Uncle Joe. Get a qualified appraisal from a qualified appraiser.
√ Use summary pages and general outlines. In other words, make it a real easy for the reviewing IRS agent to understand the return and find the information they need when making a preliminary assessment. Provide a table of contents and tabs for a complete compilation of all exhibits. Keep in mind the agents that review returns have to look at 60+ a day. If your return is well organized and complete, there is a better chance it won’t end up in the “take a close look” pile.
√ Verifying whether the prior gifts reported is accurate. Don’t overlook the possibility that the decedent may have gone to a prior CPA and filed gift tax returns and that current CPA/attorney doesn’t know about them. Missing that the decedent had filed prior gift tax return is apparently such a common goof that some tax experts have questioned whether there would be a negligence penalty applied for not knowing about the prior returns. So make every effort to ascertain what was filed. Order past returns from the IRS tax practitioners’ hotline (you’d need a Form 2848 power of attorney to do this). File a request for a transcript for gift tax returns.
√ Whenever you include assets from a joint account on the decedent’s estate tax return at less than 100% of the value of the account, explain why less than the entire account is reported in an attached deduction and provide back up (proof) for your position. For example, if the decedent owned an account “Don Decedent and Sam Survivor as tenants in common” and only ½ the value is included since Sam had contributed ½ the assets in the account, attach that explanation or proof of Sam’s contributions.
√ If the decedent had made transfers to GRATs, CLTs and other planning vehicles, attached detailed calculations and values, attach copies of the trust documents and any other relevant info. Don’t just pop a number on the return and leave it at that.
√ When you send a check skip putting a letter “V” at end of Social Security number to indicate it is an estate check. That way the IRS computers will know it is not from a live taxpayer, but rather from a decedent and the likelihood of a mix up will be minimized.
√ File a proper protective claim for refund of Form 843. The Regulations under Section 2053 prohibit estates from taking an expense deduction for items that haven’t been paid. What the IRS recommends is that estates file Form 843 Claim For Refund and write in red on top “PROTECTIVE,” this will keep the time period in which the estate can file to claim the expenses once paid (the statute of limitations) open beyond the 3 year period. Then the estate can file a formal Form 843 claim for refund. Given the importance of this when you file a protective claim for refund getting it stamped in by IRS, or sent by certified mail, so that you can prove a timely filing.
√ During planning process get copies of all key documents from clients so that they will be available to submit with the estate tax return: e.g. patents, contracts, etc. Leaving out key documents will enhance the need for the IRS reviewer to seek more info.
√ The IRS routinely asks for all Forms 1040 and Forms 1041 for decedents for the 3 years prior to death to look for gifts or other transfers in contemplation of death. The IRS looks at checks written. They review income from assets, such as a business or rental property, and then verify that the asset is on the estate tax return and that the value on the 706 is unreasonably low relative to the prior distributions or income. You could prepare in advance, and even undertake this testing and make disclosures on the return, if you wanted to minimize the issues arising on audit
Subscribe to our email list to receive information on consumer webcasts and blogs, for practical legal information in simple English, delivered to your inbox. For more professional driven information, please visit Shenkman Law to subscribe.