Dealing With The IRS And States

You're entitled to many trader tax benefits and don't let the IRS or your state take them away from you.

The IRS and states have processes for inquiries (notices), exams (audits), appeals and tax court.

Tax notices and exams

When a tax notice arrives, don’t panic and rush to reply to an IRS agent. Understand where the IRS is coming from; it may just be a computer-generated notice asking for a few simple open items. If the IRS is getting ready to challenge TTS and Section 475 MTM, it’s important to step back and make sure you have a strong case for TTS qualification, and that you elected Section 475 correctly by the deadline.

Don’t expect the IRS to get it right the first time around. The IRS notice may have a hobby-loss business or passive-loss activity questionnaire, and a trading business is exempt from those rules. Agents often calculate volume, frequency, and other metrics on your trading activity to determine TTS qualification in ways that are favorable to them and wrong in our view, so do the calculations right.

If you made an error on your tax return but you clearly qualify for TTS and elected Section 475 MTM on time, you may be able to fix things quickly. On the other hand, if you’re a close call on TTS and potentially messed up your Section 475 MTM election or other matters, you should consider help from a trader tax expert to be your formal representative.

Appeals

Expect the IRS agent to deny TTS unless you have a clear-cut case. Agree to disagree with the agent and go to the appeals level. Show the appeals officer how you are prepared to go to tax court to win based on the application of trader tax court cases. It’s best to have a trader tax expert CPA or attorney in your corner to present your TTS qualification, explain trader tax law and prepare the appeals letter. Like most tax preparers, most IRS agents and appeals officers are not well versed in trader tax law, and many misapply trader tax court cases. Be prepared to negotiate in appeals but hang tough to win a favorable outcome. The appeals letter should be in a professional style that serves as a precursor to the petition to file for tax court. That will earn respect from the appeals officer, and he or she will take you more seriously.

Transfer the exam or appeals

If you work with a CPA firm well-versed in trader tax and IRS exams, it’s wise to transfer the work to your CPA office and its local IRS office. If your CPA has reviewed prior exams with local IRS agents, she probably has educated the agents on TTS, trader tax treatment, and Section 475 elections. This helps avoid problems with less informed agents on trader tax.

Tax court

If appeals deny TTS and Section 475 MTM, and your trader tax expert thinks you have a good case, with a lot of money on the line, then file a petition in tax court. We usually suggest a “small case” filing. Engage the trader tax expert to write the tax court petition — preferably a tax attorney well versed in trader tax law.

Excerpt from Green’s 2019 Trader Tax Guide Chapter 10 Dealing with the IRS and States. 

Close