Best Practices for Correcting Tax Return Errors
Using a qualified amended return can avoid accuracy-related penalties
A practitioner notes an error on a client’s previously filed tax return. Circular 230 §10.31 states that the practitioner
…must advise the client promptly of the fact of such noncompliance, error, or omission. The practitioner must advise the client of the consequences as provided under the Code and regulations of such noncompliance, error, or omission.
The client, not the practitioner, must decide whether to correct the error:
It is inappropriate to prepare an amended return, send it to the client, and let them decide what to do with it. Our ethical obligation is to provide advice.
The advice provided to the client should be documented in the client's file. Tom’s Tax Toolbox has a new template available for this documentation.
The practitioner must decide whether to engage a client who will not address tax return errors; there may be risks in future engagements.
Errors that Generate a Refund
An amended return with a refund must be filed within the refund statute of limitations in order for the amount to be refunded. Learn more about the refund statute of limitations in this article.
Errors that Generate a Balance Due
An amended return with an increase in tax must be filed within the assessment statute of limitations; otherwise, the IRS is barred from processing it. Learn more about the assessment statute of limitations in this article.
If the client decides to correct the error, they can submit a qualified amended return and avoid §6662 accuracy-related penalties on the additional tax, provided that the amount is not related to a fraudulent position on the original return.
Under Treas. Reg. §1.6664-2(c)(3), a qualified amended return is an amended return filed after the due date of the return (including extensions) and before the earliest of the following events:
The date the taxpayer is first contacted by the IRS concerning any examination (including a criminal investigation) with respect to the return,
The date any taxpayer is first contacted by the IRS concerning an examination of that taxpayer for claiming an abusive tax shelter benefit,
The date a pass-through entity is first contacted by the IRS in connection with an examination of the return to which the pass-through item relates,
The date on which the IRS serves a §7609(f) John Doe summons relating to the tax liability of a person, group, or class that includes the taxpayer with respect to an activity for which the taxpayer claimed any tax benefit on the return, and
The date on which the IRS announces guidance published in the Internal Revenue Bulletin a settlement initiative to compromise or waive penalties, in whole or in part, with respect to a listed transaction if the taxpayer who participated in the listed transaction and for the taxable year(s) in which the taxpayer claimed any direct or indirect tax benefits from the listed transaction.
In most circumstances, a qualified amended return is one filed prior to the date that the IRS contacts a taxpayer regarding an examination of that tax year.
A return filed on or before the due date of the return (unextended or extended) is not a qualified amended return but instead is a superseding return. I wrote about superseding returns in this article..
Qualified Amended Return Example
A client’s 2023 tax return has an erroneous $25,000 Schedule C deduction that created a $22,000 loss. It is not a trade or business activity, so the $3,000 of income should be reported as other income on Form 1040, and no deductions are allowed. Assume that the taxpayer is in the 24% tax bracket.
If the taxpayer uses a qualified amended return to proactively fix the tax return issue, and the taxpayer files and pays the balance due on May 1, 2025, then the correction costs the client $6,500: $6,000 in additional tax, $500 in interest on the additional tax, and no §6662 accuracy-related penalties.
If the IRS finds the error in a correspondence examination and makes the assessment on May 1, 2026, then the changes will total $8,165:
$6,000 in additional tax,
$965 in interest on the additional tax, and
$1,200 in §6662(b)(2) accuracy-related penalties.
Interest will continue to accrue on the tax balance until the taxpayer pays the additional tax or posts a §6603 deposit.
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