Do not panic if the IRS accuses you of “unreported income”

One of the fundamental precepts of our criminal law is that you are innocent until proven guilty.

Unfortunately, the opposite is the case in tax law. The IRS is assumed to be correct and it is generally our responsibility to prove it wrong. So if the IRS decides we have unreported income, non-deductible expenses, or owe penalties and interest, we need to prove otherwise.

I know: It’s hard to believe, but that’s really how it is.

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A typical example of the resulting distress are the 1099 forms, which are sent out every year. Businesses are responsible for issuing a Form 1099 to the IRS and each of us for any taxable income we receive.

The IRS computer takes a copy of this Form 1099 and compares it with your tax return. If they don’t match, the IRS will send you a notification that you owe additional taxes on this “unreported income”.

Recently, I had a number of new clients complaining that the IRS charged them an additional tax liability for “unreported income” claimed on an erroneous Form 1099 they received. Without exception, these customers claim that they did not receive this income or amount and that this suggested review is unfair.

So how exactly do you prove you didn’t receive that income? Proving the truth of something is hard enough, but proving a negative – that something didn’t actually happen – is really hard to do.

And worse, remember that all of this is handled by the IRS computer first. IRS agents are notorious for not being compassionate. Let me assure you that the IRS computer is even less personable.

So there are several ways to deal with this. Let’s start with the fact that unreported income cases are no longer considered to be correct by the IRS. Instead, it is on the IRS today – through legal process and statute – to prove that you actually received this unreported income.

You read that right. Today the IRS is required to provide evidence that you received this income and that it was taxable.

If the IRS insists on administrative or judicial charges against you for this tax beyond a reasonable period of time, it is entirely possible to collect legal and accounting fees for the time you spend doing the IRS’s job.

But be careful how you deal with it. There is a lot of complexity here. There are laws that regulate the situation and there are many cases of finance courts that do the same. So there are many things you don’t want to do that, if handled incorrectly, can put the burden of production back on you.

Folks, the reality is that the IRS has issued millions of proposed tax bills to innocent taxpayers who did not receive claimed income based solely on a Form 1099 – hundreds of millions of dollars in taxes that were not due.

So if you get a notice from the IRS that you have unreported income, don’t panic. Also, do not represent yourself. Find a good tax attorney who is familiar with federal tax laws on what is known as “unreported income” to get the correct result.

Most of all, don’t be afraid. Anxiety is the IRS’s greatest tool, and it uses it aggressively.

David Leeper is a certified federal tax attorney with 40 years of experience. He can be reached at 915-581-8748, [email protected] and