1099 Abuse

1099 Abuse

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wtfAnyone who has your social security or taxpayer identification number can file a Form 1099 with the IRS claiming to have paid you a sum certain during the tax year.

Whether or not you actually received the amount shown on the 1099 is irrelevant. The IRS assumes you got the money and will attempt to match it with the amounts you included in income on your tax return. If the numbers don’t match, you’ll be the subject of an investigation.

You may prevail in the end, but the damage will have been done. IRS scrutiny is often costly and always stressful and time-consuming.

The Bogus 1099

There are thousands of instances every year of false 1099 reporting. Here are three of the most common abuses:

  • An estranged husband files a 1099 for the value of the gifts he gave his wife during the year.
  • A businessman files a bogus 1099 in the name of his ex-partner as a means of getting back at him for perceived inequalities during their partnership.
  • An individual or business files a 1099 claiming that a taxpayer/debtor (usually a relative, former friend or business associate) owed them money and failed to repay it.

It is illegal to knowingly file a false 1099, but the IRS doesn’t enforce the law. And the reason for this is simple: the IRS wants to encourage taxpayers to disclose payments they have made to other taxpayers. If it aggressively pursues the filers of false 1099s, there might be a chilling effect on information reporting in general.

IRS Matching Procedure

The law requires that the issuer of a 1099 send a copy to the IRS and a copy to the taxpayer. However, a person who files a bogus 1099, will probably not send the taxpayer’s copy so as to prevent the taxpayer from disputing the false 1099 before the IRS has begun it’s investigation and the damage has been done.

This means that the taxpayer will not know about the 1099 problem until the IRS has done it’s preliminary investigation and discovered that the amounts included in the 1099 were not included on the his tax return.

In non-matching cases the IRS typically sends the taxpayer a CP-2000 notice which contains a new tax calculation, with the appropriate assessment of penalties and interest, that includes the unreported 1099 amount.

The taxpayer can either agree with the changes in full, disagree with them in part or dispute them in their entirety. If the taxpayer ignores the CP-2000 notice, the changes proposed become final and the case will be referred to IRS collections.

Taxpayer Advice

Before you respond to a CP-2000 that contains adjustments to your taxable income for a bogus or incorrect 1099 here is what you should do:

  1. Contact the issuer of the 1099 and try to persuade him to issue a corrected 1099 – This will only work if, a) the issuer is still in business; b) he is inclined to cooperate with you; and c) the issuance of the 1099 was an honest mistake.
  2. Send a demand letter to the issuer of the 1099 – It is important to document that you have challenged the issuer’s filing of the 1099 and are prepared to take strong action against him if he does not immediately correct it.
  3. Collect and exam your bank statements for the appropriate tax year – If steps 1 and 2 don’t work, you will probably have to show the IRS that you included on your tax return all taxable deposits made to your bank account during the year. This is not an attractive solution because it requires that you provide your private financial information, but it is often the only way to get the IRS to drop it’s claim.
  4. Obtain statements or affidavits from others – You might be able to get others to attest to the nature and extent of the services you performed for 1099 issuer during the year. These might be ex-employees of the 1099 issuer who were aware of the relationship you had with the issuer.
About Peter Pappas

Peter is a tax attorney and certified public acccountant with over 20 years experience helping taxpayers resolve their IRS and state tax problems.

He has represented thousands of taxpayers who have been experiencing difficulty dealing with the Internal Revenue Service or State tax officials.

He is a member of the American Association of Attorney-Certified Public Accountants, the Florida Bar Association and The Florida Institute of Certified Public Accountants and is admitted to practice before the United States Tax Court, the United States Supreme Court, U.S. District Courts - Middle District of Florida

Comments

  1. My wife received a substantial check from a former employer as a result of a class action lawsuit for sexual harassment. When we received the settlement, it was stated that the payment was for damages (which I understand to be non-taxable, right?). Moreover, we received the check in February, 2010 even though it was dated for last October, 2009.

    Now we’ve received a 1099-MISC that reports the full amount as other income, but that means I have to pay taxes on it, right? Is there a way to contest the type of income reported, and am I right to think it ought to be tax-free? Also, if I didn’t receive the payment until 2010, should I pay taxes on it this year or next?

  2. Robert,

    The answer is not as simple as it might appear. I would have to see the class action complaint as well as the settlement agreement. If any portion of the damages are for back pay, for instance, they could be subject to tax.

    Hire someone to look at this for you before you sign your return.