labels - my cfomycfo-mycpa.com/...joinretrnsneedwarninglabels.pdf · labels theresa karam was...
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TAXES | 11/24/2012 @ 9:19AM | 387 views
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Theresa Karam was denied innocent
spouse status by the Tax Court and
has lost on appeal to the Sixth
Circuit. There is a very interesting
twist to her case. Her failure to get
innocent spouse status was
cushioned by the lawsuit that she
won against her accountant. He did
not make it clear to his client that
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Page 1 of 8Joint Returns Need Warning Labels - Forbes
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filing a joint return is an election. A
joint return will generally result in a
lower tax than the total of two
married filing separate returns, but
there is a significant downside. It is called joint and several liability. The IRS
can collect the entire tax from either of the spouses. There can be relief from
this harsh result but, as Theresa Karam learned, it is not easy to get that relief.
The story is a little odd:
The Karams have used an accountant to file joint
federal income tax returns since they were
married. However, in 1997, following the death of
their long-time accountant, James Karam retained
Theodore C. Schumann, P.C., C.P.A., doing
business as Dental Business Services, Inc. (the
“Schumann firm”), to take over the family’s
accounting and taxes. Although James provided
the Schumann firm with tax documentation
necessary to timely prepare their tax returns, the
firm was delinquent in preparing the Karam’s tax
returns for the years 1998, 1999, 2000, and 2001.
The Karams later discovered that the accountant
assigned to their file was ill, and the firm never
had another accountant prepare their returns.
I don’t get how Dr. Karam went as long as he did
providing information to timely file his returns and
not think that there was some sort of problem when
they never got prepared. It took pressure from the
IRS to get him to look into it.
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Page 2 of 8Joint Returns Need Warning Labels - Forbes
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In August 2002, IRS Officer Sharon Sloan
demanded that the Karams file their delinquent
income tax returns or face a financial records
subpoena. Thereafter, the Schumann firm finally
delivered joint income tax returns for the Karams
to sign. Attached to each return was a note saying
“please sign.” Theresa Karam alleges that she had
to sign the returns as presented and was unaware
that she could decline to file a joint return and
instead file as “married filing separately.” The
Schumann firm never advised her with respect to
the tax consequences of filing a joint return. She
nevertheless signed each of the four returns, and
the Schumann firm filed them with the IRS.
I don’t want to knock the accountants for the
mistake that they seem to have made, because it is
close to a universal mistake. There are two very
distinct areas of tax practice. In one area you are
determining the correct tax and coming up with
legitimate ways to make the correct tax as low as
possible given whatever constraints you might be
working with. Call that compliance/planning. The
other area is collections. When practicing in the
collections area, lowering the correct tax will often
be only of academic interest. Collections is all about
what you can pay. Filing a joint return is almost
always the right answer in compliance/planning
mode. If the balance due is being paid, making it as
small as possible is clearly the way to go.
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If the balance due is not going to be paid, filing a
joint return is quite likely the wrong answer. Ms.
Karam was an employee and presumably had
withholdings. It seems unlikely that she would not
have had a huge balance due had she filed
separately. Doctor Karam would likely have owed
even more on a separate return. So what ? He
didn’t pay the lower balance due for the joint return
and by making it a joint return the IRS ended up with two people they could
chase for it.
In August 2006, Theresa Karam sued the Schumann firm in Michigan state
court, alleging that the firm’s negligence and breach of contract resulted in
her joint and several liability for federal income taxes. The case was
ultimately settled, with a payment of $150,000 to petitioner. After paying
attorney’s fees and costs, Karam offered the IRS the remaining balance of
$99,186 to settle her outstanding tax liability. Pursuant to administrative
procedure, Karam was required to deposit twenty percent of her offer with
the IRS, which she did. However, the IRS ultimately rejected Karam’s
settlement offer and kept her $19,837 deposit.
Ms. Karam was denied innocent spouse relief for a couple of reasons. The
Court did not believe that she was unaware that her husband was not going to
pay the balance due on the delinquent returns. There was also a finding that
she had benefited from the unpaid taxes since they allowed her to devote her
own earnings towards the expenses of getting a PhD and sending her children
to private schools. Perhaps the unkindest cut of all:
Additionally, her admission that she is using the remaining $80,000 from
the settlement with the Schumann firm to finance this litigation further
undermines her claim for relief. Karam questionably asserts “economic
hardship” while possessing a large litigation fund that she could use to make
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partial payments on her tax debt. The equities of the situation are not in her
favor.
Robert Steinberg in his The Tax Wars Blog wrote about the original Tax Court
decision last year. He suggested that preparers add a paragraph, which he
provides, to engagement or transmittal letters warning about the implications
of filing a joint return. The idea has merit, but when I think about how long
some engagement letters already are, the value of adding another paragraph,
beyond CYA for the preparer, is limited. What is really important is for
preparers to be alert to the situations where separate filing might be the best
course. A pile of delinquent returns with large balances is such a situation.
Making the large balances a little less large might not be worth giving IRS
collections people another person to pursue. It is also important for the
preparer to recognize that the interests of the couple might not be aligned in
situations like that.
You can follow me on twitter @peterreillycpa.
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