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What Questions Should You Ask New Tax Clients?

This week’s blog focuses on the importance of exercising due diligence when taking on new tax clients by asking questions regarding their previous tax returns that could impact current tax returns you will be preparing for them today.

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Tom O'Saben, EA

Tom O’Saben EA




Hello again, everybody, and welcome to our blog for the week of February 21 2022. I hope the filing season is going well for you. We’re deep into it now. And so I thought this would be a good time to come up with some questions to ask new clients when they come in the door. I hope if nothing else, this turns to be a series of memory joggers are things to think about with that new engagement.

For those of you might be new to our blogs. My name is Tom O’Saben. I’m an Enrolled Agent and the Assistant Director for Professional Education and Outreach for Tax School. In addition, I’m a Fall Tax School instructor and author and reviewer of the University of Illinois Federal Tax Workbook. I also work on our webinars and these weekly blogs. In addition, I’m a tax practitioner who’s been at it for more than 30 years.

When you use information that’s on a previous tax return. And we’ll talk about those different types of areas as we go through this session. And it impacts the return that you’re preparing today. You take ownership, or your client takes ownership, of those impacts from previous returns. So what I want you to have is that takeaway is I don’t want you to consider that if in the event your client was to be audited. And you say, Well, I don’t know, I just carried over that number from a previous return. Well, the impact that it has on a return that you signed, is really, really important. So due diligence would say, to make inquiry as to what was the cause of that information that came forward? And do you agree with it? And do you now have ownership of it as you continue on with the engagement

So what we’ve done at Tax School, we’ve developed a new client questionnaire that’s going to be used in our 2022 Fall Tax School workbook ethics chapter. But I wanted to reproduce it here, and we’ve got about 16 questions for you to ask. Some of them relate to laws that have been around for quite some time or changes that occurred quite some time ago or change many, many years ago. Some are more current more relevant to recent tax law changes, but nonetheless, are important for you to ask when that new client comes in to see you.

So the first thing we’re gonna talk about is the is the First time homebuyer credit. If you’ve been around for a while, you might recall back in 2008, to stimulate the economy, there were loans to help people buy homes – $7,500 interest free. But that was to be repaid at $500 a year over the next 15 years. Well, guess what? It’s still around. So you’ve got clients who are having to repay that loan. So one of the things you might look for on a previous year return or ask a client? Did you in fact, get that first time homebuyer loan and as our questionnaire, if you refer back to it? asks, Are you still in that home? So we might find that, yes, there’s a $500 charge on their return for last year. And we may be continuing that. I’m also giving you a resource down here at the bottom of the page that has a lookup tool, which I think is very helpful from You can copy and paste this into your search bar on your on your Internet Explorer or Google tool or wherever you use to go ahead and look up these first time homebuyer credits. Better to act then have your client come along and say, “I don’t know why I got a letter from the IRS proposing that my refund or my balance due is $500 higher.” This would be an important consideration with that new client.

Also too, in the CARES ACT gave a provision in 2020 for self-employed tax deferral. Taxpayers who had self employment tax on 2020 could go ahead and defer that – pay half of it during 2021, and the other half of it when they file their 2022 return. Also, it was eligible to defer payroll taxes that occurred between March 27 and December 31 of 2020. This was the height of the pandemic and the law also exempts these payments from underpayment penalties, but it certainly wouldn’t exempt them if they’re not included on the return. Another takeaway I hope that you get from our conversation today is to get previous year returns; you might need at least three years. Now under the self employed tax deferral, you’ll see that that’s under the Cares Act. We give you the public law and also the section of the Cares Act that it would refer to for you to look at with that new engagement.

Also coming out of disaster relief or the Cares Act as well, we have deferral of retirement plan distributions and read contribution

A lot of you are dealing with these right now I know that because I’m dealing with the same thing, we’re looking for that form, if you want to write this down at 8019F, like Frank, to deal with those clients who may have taken a disaster related distribution in 2020, and they elected on that 2020 return to go ahead and report the income ratably over the next three years. Again, we’re going to need to know about that. We may need to look at a previous year’s return for that client who made the decision to go ahead and spread it out over three years. And you know, I hate to think the worst of our clients. but I’m wondering if new taxpayers might just be looking for something like a new preparer who wouldn’t know that they had elected to spread it out over three years and think they can get something by you? Well, they had to use a Form 8915 on the 2020 return in order in order to elect that deferral. So it would be something for you to look for. Also too, you want to ask that new client if in fact, they did take a disaster related distribution? Could they in fact, have a situation where we can go ahead and

ammend the 2020 return for re-contributions, they’ve got three years to put the money back in there? And so that would be a question to ask, too. I’ve had one so far this year, it’s pretty early in the filing season. And one of my questions was, did you put any of the money back? Or was it in fact, a COVID related distribution. Again, get those returns for the previous years. And we give you some chapter and verse to go ahead and look at down here at the bottom of the slide to also support our conversation and your questions that you ask back to the questionnaire.

This is not a new rule. In fact, it came out in 1986. Looking at that return and think people that have rental property, or other passive types of activities. They could have limited partnership interests, or other activities where they don’t have material or active participation, we might have suspended losses. And it’s important to understand that a suspended loss is not a disallowed loss, I described it as being put in the bank. So when you look at a return and you see rental property, or you see any kind of activity, perhaps that may come in on a Schedule E, I would suggest that you look for the form 8582. In my world, that’s the bank account. That is the form that is tracking the suspended losses, which could be released upon sale or disposition of that activity. Any fully taxable transaction. Code section 469 helps you walk through these provisions. But once again, I think it’s something important to look at, I have found that many new clients that have come in who have rental properties have been educated very well about this loss in the bank, especially when they’re contemplating the sale of the property. So another thing to look for on those older returns is there in fact, a form 8582 there. That is, in fact, like I told you, the bank account for tracking those suspended losses that can be deducted later.

The next area of discussion is capital loss. carryovers. We know that losses can be limited. You know, you can take losses against gains. But once you get beyond that, you’re limited to $3,000 unless the couple is married filing separately. This is another one of those provisions where you’re taking ownership of those losses. I know some years back, I had a client who was new to me, they brought their return in and the carry over loss. And I’ll tell you a couple a couple of secrets to this. The first thing was that I knew there be capital loss carryover, is that when I saw their 1040 right there on the front of it, there was a loss of $3,000. People tend to typically not have exactly $3,000 In loss. So in that circumstance, I knew there was loss carryover, but here’s the rub. They were showing three and a half million dollars of loss carryover. Alright, so I’m wondering if there’s a decimal out of place. So I contact the client, they say talk to our broker, and they gave me permission. So I called the broker. And he provided me the information of what was a horrible series of losses that occurred over several years, I papered the file to document that I’m now taking ownership of this three and a half million dollar capital loss carryover, and what we’re going to need to do with it going forward. If you want to talk about those losses in more detail. Again, we give you the Internal Revenue Code, as well as instructions for the Schedule D down at the bottom of this slide.

Our next area of discussion do was something more recent, you might recall that TCJ from 2017 created the qualified business income deduction, the QBID. Well, QBID provides a deduction. But conversely, we can also have qualified business losses. When we talk about qualified business losses, those losses are carried forward. But guess what, they will reduce any qualified business income going forward. So even if that business doesn’t exist anymore, it’s still going to be a situation where you have to take that loss into consideration, even if the business is is gone. If you want to look at it, it’s in the Tax Cut Jobs Act, which is Public Law 115-97. The provision is section 11011. And this is code section 199A. So probably the important thing is to look for on those previous returns, do we in fact, have any qualified business losses, which will need to offset qualified business income in this current year?

And in the same light, we talk about net operating losses, again, someone comes in with a return and there’s $100,000 net operating loss, are we just going to carry over that number? Or are we going to make inquiry as to what created that in the previous years? Now, before 2018, taxpayers had a decision to make as to whether or not they were going to go with the default, which I say here right on the slide, which was to carry that loss back. Well, TCJA, eliminated NOL carrybacks. But then the Cares Act suspended that or postponed the TCJA rule, and said for years 2018 through 2020 taxpayers with net operating losses could in fact elect to carry those back. Well, here we come along in 2021 again, and the TCJA rules have snapped back into place, which says for a net operating loss which occurs this year, we can only carry it forward. So the takeaway is multifaceted. Number one, when you have that new client come in, and you see a net operating loss, you’re going to have to make inquiry. Going then further, what are we going to do with that? Could in fact that be an old loss, which has been carried back and hasn’t been calculated correctly as to what now is the carry forward. And then those new NOLS subject to the TCJA rules which say they have to be taken only carried forward. And then the rules which apply for those. Very important to get those previous year returns.

We can also have charitable contribution carryovers. Depending on what year they came from, they may have been in buckets of 20% or 30%, or 50%, or even 100% of adjusted gross income. We have a limitation. Here we tell you on the slide, that contribution carryovers are limited to five years. So we’re going to need to do some research as to what buckets those carryovers belong to. And is it possible that they could in fact, be lost or be wasted? We need to do some planning with the client. You want more information, you can see code section 170, including also IRS Publication 526, which talks more about charitable contributions. Look for those contribution carryovers. There may be worksheets attached to that tax return, or in fact you might see it on a Schedule A. The same is true, we could have section 179 carry over because the section 179 election is limited. Where are you going to look for that? Look for that on form 4562? You’ll see carryover immediately there. Some taxpayers I remember doing this very early in my career doesn’t mean I wouldn’t do it today. Probably not because we have bonus. But if bonus didn’t exist. I recall going ahead and electing section 179 where a taxpayer said, “well, I want to go ahead and maybe not take the deductions for the equipment I purchased over five or seven years. But can I take some of it this year? And some of it next year?” Well, the answer is unless it’s section 179, and if you would be limited by the net profit of the business or the adjusted gross income of the taxpayer, you could have carryover. Go ahead and look at that form 4562 on that client’s tax return they’re bringing you from a previous year that you didn’t prepare. Also some code section here to help support my statements. You can go ahead and see chapter and verse by going just copy and pasting this and do a Google search for example.

We might have credit carryovers. Look for the form 3800. Do we in fact have general business credit carryovers or foreign tax credit carry overs or minimum tax credit on that form 8801? We don’t have as much alternative minimum tax as we used to, but look for these items. Generally, these credits are limited to the tax. That’s why we have carryover. They are non refundable credits. In other words, they were limited to the amount of tax that client may have had. So you want to look for these carryover items, again, by reviewing those previous year returns.

We could have debt forgiveness from previous years. If in fact a client has found a reason not to include debt forgiveness as part of income. If they’re going to be able to do that they’re going to have to make a decision or decision was made when that debt forgiveness wasn’t included. One of the decisions was to either reduce tax attributes. We mentioned some of those such as capital loss carryovers, credit carryovers, net operating losses, minimum tax credits. Or did they reduce basis in depreciable property? We’re going to have to know what was done with that debt forgiveness that was not included as income. And how is that affecting the future years returns. By the way, clients tend to forget these things. So especially if you made an election or an election was made to reduce basis in property, and now that property is being disposed of, and you tell them they’ve got a much bigger gain than they’re anticipating. It may take some research going back to do you remember when you had that debt forgiveness, and it was excluded from income, the decision was made to reduce basis in property? Well, you know, that just doesn’t go away. It’s sitting over in the corner growling at the client, until they decide to go ahead and sell that property and it rears its ugly head. If you want more information here, we reference IRS Publication 4681, which I think is very, very helpful. And also code section 108.

Determining S corporation or partnership basis, this has become more and more of an issue. The IRS is aware that there are taxpayers that are taking tax free distributions. They are taking tax deductible losses or loan repayments. And they’re wanting more and more documentation to support these losses or non taxable distributions. In fact, beginning with this year’s returns, your taxpayer needs to put a form 7203 attaching to their personal return when they’ve got S corp losses or distributions, or in fact gain upon the sale of their stock. So 7203 is in fact a new form for 2021. And what it does, in my opinion, it really doesn’t change those worksheets that we had done in years past other than to give an eye give the IRS a form to go to, to track the very, very same items. So don’t ignore these, the IRS is aware that this is a big area in the tax world, where again, losses are being allowed. distributions are being treated as being non taxable, or their loan repayments. And the client may be avoiding tax. And now we need a form 7203. My understanding is the form is only required right now for S corp shareholders. But certainly with partnerships, we also want to track basis for these very reasons. We mentioned an IRS link here, along with code sections 1367 705 and 722. Important considerations when you take ownership of that clients return.

Education credits are also important, this is the one that I’m most concerned about, especially when we’ve got a client who’s wanting to take the American Opportunity Tax Credit. And let me throw a scenario out to you. Let’s say you’ve got someone who was in their college years back in the early part of this century, and they may have taken the whole credit, as I mentioned, twice, well the whole credit used to exist for just the first two years. Now the taxpayer went on and maybe became employed, and you know, always wanted to go back to school, and now they’ve returned to school. So the question becomes, did you ever take an education credit before the taxpayer might answer “no.” Well, years ago, they took the hope, credit, perhaps and now that we have the American Opportunity Tax Credit, if we took the Hope Credit twice, even though the American Opportunity Tax Credit is there, it’s only gonna be good for another two years, because of the fact that overall, it’s four years total, including the years that it was the Hope Credit, and that’s a lifetime limit. So due diligence is going to say, oh my gosh, how far back are we going to have to look to find whether or not this client received any credits in an earlier year. So I think that’s going to be important too. Another point that I want to mention is that after 2020, we no longer have the tuition and fees deduction. The Lifetime Learning Credit has been promoted to have the same phase out limits as the American Opportunity Tax Credit. But it’s still limited to 20% of $10,000. In that it really hasn’t changed. We got some q&a there for you that you could go on the website and take a look at and also the code section under 25 A.

So lots and lots to think about with these issues. Tax school is there for you, you know, sometimes you think, well, you only go see Tax School in the fall. But we’re here throughout the year, I would strongly suggest you go to our Facebook Group, as information comes along. As there is news that happens. We we go and we post it there or we do these weekly blogs. So anything that happens during tax season, you know, we could have changes to the materials that we use in Fall Tax School, but we’re here for you. We’ll update things as we as we can join the Facebook Group. It doesn’t cost you anything. Sign up for these weekly blogs. I try to keep them as as quick as possible. I know although I know we’ve gone over 20 minutes now. But nonetheless. Join us we’re here for you. We’re going to help you get through tax season. And for now. This is Tom O’Saben. For all of us here at the University of Illinois Tax School we’ll say goodbye for just a while

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