Tag Archive for Cash
As I understand the Cohan rule under the IRS’ Guidelines For Determining Noncompliance, taxpayers are allowed a deduction for an estimated amount of expenses when it is clear the taxpayer is entitled to a deduction but is unable to establish the exact amount of the deduction. Specifically the IRS states on their web site the following. “The “Cohan Rule,” as it is known, originated in the decision of Cohan v. Commissioner, 39 F.2d 540 (2d Cir. 1930). In Cohan, the court made an exception to the rule requiring taxpayers to substantiate their business expenses. George M. Cohan, the famous entertainer, was disallowed a deduction for travel and business expenses because he was unable to substantiate any of the expenses. The judge wrote that “absolute certainty in such matters is usually impossible and is not necessary, the Board should make as close an approximation as it can.” In general, the Tax Court has interpreted this ruling to mean that in certain situations “best estimates” are acceptable in order to approximate expenses. The Cohan Rule is a discretionary standard and can be used to support a reasonable estimate of compliance requirements.”
This worked well for the taxpayers in Armando Sandoval Lua v. Commissioner TC Memo 2011-19 in that the taxpayers provided sufficient evidence demonstrating additional compensation expense was incurred for additional services provided even though it was in the form of cash.
This audit was initiated by the Treasury Inspector General for Tax Administration (TIGTA) to determine whether minimum probes for unreported income during sole proprietor audits are conducted in accordance with IRS policies and procedures. This audit was conducted as part of the Fiscal Year 2010 Annual IRS Audit Plan and addresses the major management challenge of Tax Compliance Initiatives. Tax gap estimates created after the National Research Program for Tax Year 2001 showed that unreported business income by sole proprietors accounted for $68 billion (20 percent) of the estimated $345 billion gross tax gap.
As called for in IRS policies and procedures, field examiners are generally checking for unreported income during audits of sole proprietors. However, steps could be taken to increase the consistency and accuracy of preliminary cash transaction analyses. A preliminary cash transaction analysis provides the basis for performing more indepth audit testing by identifying differences between expenditures and income. If considerable, the differences should be addressed during the audit because it raises questions such as whether there are additional sources of income that should have been reported, if expenses are overstated, or if the taxpayer had a source of non-taxable income.
TIGTA recommended that the Director, Exam Policy, Small Business/Self-Employed Division, issue guidance to group managers to increase the specific written performance feedback given to examiners on the adequacy of their tests for unreported income. In addition, TIGTA recommended that the Director, Exam Policy, issue guidance to group managers and examiners to reinforce the requirement and importance of using appropriate personal living expense data in preliminary cash transaction analyses.
IRS management agreed with the recommendations and plans to issue a memorandum emphasizing the importance of providing specific evaluative feedback on the adequacy of minimum income probes. IRS management also plans to issue a memorandum emphasizing the importance of using appropriate personal living expense data in preliminary cash transaction analyses.
To view the report, including the scope, methodology, and full IRS response, go to:
Email Address: inquiries@tigta.treas.gov
Phone Number: 202-622-6500
Web Site: http://www.tigta.gov
Tax Information