Notice of Deficiency

While you never want to receive a notice of deficiency from the Internal Revenue Service, there is rarely a reason to panic if you should be issued one. IRS deficiency notices are not uncommon because they are used to notify taxpayers that its calculations show that they owe a different amount than that shown on their tax returns.

The deficiency notices are often called “90-day letters” because taxpayers have 90 days to respond by either accepting the IRS’s revised calculations or appealing the matter to the U.S. Tax Court. The deficiency letters are sent by certified or registered mail and they usually represent the final step before the IRS takes action to collect your unpaid tax bill.

If the IRS has found that the return you filed does not match other reported information it has received, it will send you a Notice CP2319A. When the IRS has not received a return from you and has calculated your tax, penalties, and interest based on wages and other income reported by your employer or financial institution it will issue a Notice CP3219N.

What is a Notice of Deficiency?

A notice of deficiency is a legal document the IRS issues to let you know it is proposing a change to your tax return. The IRS has proposed the changes because it received information that the amounts reported on your return are not correct. The proposed changes usually result in additional tax owed, interest, and penalties, but in some circumstances the changes will decrease the amount of tax you owe.

Why Did I Receive a Deficiency Notice?

The most common reason for the IRS to issue a deficiency notice is that it received a third-party report that you had taxable income you did not report on your return. Federal law requires many parties that make payments of more than a specified amount to you to file what are known as informational returns with the IRS. If you have received a payment from a person or organization that was required to file an informational return, you are supposed to receive a copy so that you can include the correct amount on your tax returns.

When the IRS receives notice that you were paid money it considers taxable income and it did not appear on your federal income tax return, the IRS will adjust your taxable income to reflect the unreported amount. It then recalculates the tax due based on that updated information and issues a notice of deficiency.

Common types of information returns used to report taxable income payments to the IRS include:

Form W-2, Wage and Tax Statement
Form 1099-NEC, Nonemployee Compensation
Form 1099-MISC, Miscellaneous Income
Form 1099-DIV, Dividends and Distributions
Form 1099-INT, Interest Income
Form 1099-S, Proceeds from Real Estate Transactions
Form 1099-C, Cancellation of Debt

What Does This Notice of Deficiency Mean?

Federal law requires the IRS to issue a notice of deficiency before assessing additional income, estate, gift, and certain excise taxes. The notice must set out the reason it was issued, the amount owed, and your options for responding. It must also include an explanation of the adjustments and a statement showing how the deficiency was computed.

While the notice of deficiency is not a final tax bill, if you do not either agree to the proposed changes or file an appeal to the U.S. Tax Court within 90 days, you will be assessed the listed amount, plus penalties and interest. If you don’t file a petition with the Tax Court within the required 90 days, the notice becomes legally enforceable and the IRS will send you a bill for the tax due. The IRS can then try to collect through the tools that are available to it, which include federal tax liens and levies.

It is important to note that, once you have been issued a notice of deficiency, the IRS cannot extend the amount of time you have to respond to or file a petition with the Tax Court.

I AGREE WITH THE NOTICE – WHAT SHOULD I DO?

If you have reviewed the notice of deficiency and determine that it is correct, you should sign the Form 5564, Notice of Deficiency – Waiver, that was included with the notice and return it to the IRS. You do not need to file an amended return with the IRS unless you have additional income, credits, or expenses you need to report.

To file an amended return, the IRS recommends completing a Form 1040-X, Amended U.S. Individual Income Tax Return, and attaching it to your Form 5564.

I DISAGREE WITH THE NOTICE – WHAT SHOULD I DO?

If you disagree with the changes proposed by the IRS you have the option of either providing information to the IRS or filing a petition with the Tax Court. If you have any additional information that you believe the IRS should consider, you should submit the documentation along with your Form 5564 and include an explanation. You need to submit the additional information to the IRS as soon as possible after receiving the notice so you will still have time to file with the Tax Court if the IRS does not change its position.

To begin your case in the Tax Court you must first file a petition with the court. If the disputed amount is less than $50,000, you can choose to use the Tax Court’s small case procedures. The advantages of using the small case procedures include:

The court holds trials in more cities than it does for regular cases
Pretrial and trial procedures are less formal
The rules of evidence are relaxed, so the judge can consider any relevant information

There is no right of appeal in a small case, which means that you and the IRS will both need to accept the Tax Court’s ruling. Regular Tax Court cases may be appealed to the proper U.S. Court of Appeals.

Consequences of Ignoring a Tax Deficiency Notice

Ignoring your deficiency notice will not make it go away. If you fail to respond, the IRS will continue to charge you interest and penalties and can take additional action to collect the deficiency amounts using the following means:

A federal tax lien. This is essentially a notice that the IRS intends to place a levy on your assets, including wages, your bank account, and your personal property.
A federal tax levy. The tax levy occurs when the IRS seizes the possessions or garnishes your wages to pay your tax debt.
Jail time. This is uncommon, but if the IRS believes your deficiency was the result of tax fraud it could launch a criminal investigation into your finances.

Contact Us for Notice of Deficiency Help

If you have received a tax deficiency letter from the IRS that you believe is unfair or incorrect, you must take action quickly because you will only have 90 days to assess your options and come up with a plan of action. The skilled Los Angeles tax attorneys at Hillhurst Tax Group understand the deadlines you are facing and have the experience necessary to properly assess your situation and, if necessary, challenge the IRS before the Tax Court. We also serve as forceful advocates to ensure that your taxpayer rights are protected. Contact our offices today to schedule a free office consultation.