ASK THE CALIFORNIA EMPLOYMENT TAX AND PAYROLL TAX ATTORNEY – HOW A LITTLE-KNOWN FTB LAW CAN SAVE YOU BIG BUCKS – THE BACHOR CASE
By Robert S. Schriebman
There is a little-known statute within the FTB’s Revenue and Taxation Code that shortens the normal period of time in which the FTB can assess personal income taxes. This provision is not new. It has been in existence for decades. Yet very few people know about it especially tax professionals whose job it is to know these things. This article will discuss the requirement for notifying the FTB at the completion of an IRS audit so that the FTB can issue its “Me Too” assessment.
The basic statute of limitations for an FTB income tax assessment is 4 years. The IRS’ version is 3 years. This is why it is so important to keep your records at least 4 years in case you are on the receiving ed of an FTB audit. This rule can be found in R&TC § 19057.
The little-known law restricts the FTB’s assessment time to only 2 years providing that the taxpayer timely notifies the FTB of the completion of an IRS audit or the resolution of an IRS matter that was resolved through the Appeals process or through litigation in the US Tax Court R&TC § 19059.
Let’s take a look at this little-known special rule R&TC § 18622(a).
R&TC § 18622(a)
R&TC § 18622(a) provides that if the IRS changes or corrects any item required to be shown on a federal tax return, a taxpayer must report each change or correction within 6 months of the final federal determination and concede the accuracy of the determination or state why that determination is erroneous. If the IRS determination results in an increase in the taxpayer’s IRS personal income tax liability, that determination will also allow the FTB to correspondingly increase that liability to the extent California law follows the IRS version.
Most people including tax professionals, pay no attention to this law. By failing to observe this law, the taxpayer allows the FTB an unlimited amount of time to issue its ‘me too’ assessment. On the other hand, if this law is observed, and the taxpayer notifies the FTB within the 6-month time limit, the FTB only has 2 years to issue its corresponding assessment. R&TC § 19059.
Let me assure you that observing the 6-month notice rule can really pay off. Back in February 2020, I sent the FTB notice of a completion of an IRS matter involving the year 2017. In October 2022, the FTB finally got around to issuing its ‘me too’ assessment in the amount of $24,000 – a lot of money! I sent the FTB copies of my earlier notice and proof of mailing through the USPS. I pointed out in my letter that it was now too late for the FTB to attempt an assessment. It worked – the FTB acknowledged they were too late.
There is no set form for notifying the FTB of the final IRS income tax determination. A simple letter explaining how your matter was resolved together with attaching copies of the relevant IRS documentation are the basic requirements. The notice must be sent to the following address of the FTB:
RAR/VOL MS F310
Franchise Tax Board
P.O. Box 1673
Sacramento, CA 95867
Your notice should be sent to the FTB in such a way that you can prove the date it was sent. The most effective way is to send the notice by certified mail through the post office and obtain a round-stamp proof of mailing date.
The Bachors Case
The Bachor case is a recent example of what can happen where a taxpayer does not observe the requirements of R&TC § 18622(a).M. and T. Bachor, OTA Case No. 21017171.
The Bachor case involves the tax year 2016. The taxpayers failed to report taxable IRA distributions totaling over $10,000 from two IRA accounts at Charles Schwab & Co., Inc. Schwab issued two 1099-R Forms. The Bachors claimed only $34 of the IRA distributions as taxable income on their 2016 federal tax return. The Bachors filed a timely California tax return reporting federal adjusted gross income (AGI) that included only $34 of IRA distributions from the two Schwab accounts.
The IRS subsequently assessed the Bachors income taxes reflecting the true amount shown on both 1099-Rs. The Bachors failed to notify the FTB of the IRS’ action as required by R&TC § 18622(a). Subsequently, in March 2022, the FTB received information from the IRS in the form of account transcripts showing the IRS adjustments to the Bachors’ 2016 return. This information was provided to the FTB almost 3 years after the IRS made its adjustment to their 2016 return. The FTB assessed them an additional $927 of personal income taxes.
The Bachors brought their case before the Office of Tax Appeals (OTA) and attempted to argue that the majority of the $10,000 received from Schwab should not be taxable but they provided no real proof to this effect. They also raised several other arguments but provided no proof whatsoever.
It appeared to me that the Bachors were trying to bluff their way out of having pay the FTB $927. Raising specious arguments with no proof accomplishes nothing and wastes everyone’s time especially the OTA. The judge gave the Bachors several extensions of time to provide proof that portions of the Schwab IRA distributions were the result of a rollover from a traditional IRA to a Roth IRA or “investment in the contract.” Taxpayers may elect to make non-deductible contributions to an IRA pursuant to IRC § 408(o). Non-deductible contributions to an IRA, less any prior withdrawals, or distributions of non-deductible contributions constitute a taxpayer’s investment in the contract. The Bachors could not prove that any contributions were made.
The OTA affirmed the FTB’s assessment of $927.
The importance of observing this little-known notice rule cannot be overemphasized. It works to prevent the FTB from issuing a late assessment. The basic tax characteristics of a traditional IRA are: 1) deductible contributions; 2) the accrual of tax-free earnings; 3) the inclusion of distributions in gross income per IRC § 72. Gross income means all income from whatever source derived, unless specifically excluded. (IRC § 61(a) and R&TC § 17071.) Generally, a distribution from a qualified retirement plan, such as an IRA, is included in income for the year of distribution (IRC §§ 402(a) and 408(d)).
Robert Schriebman has a successful practice in the Rolling Hills Estates area of Los Angeles County serving clients throughout California and the United States. He has successfully dedicated more than 50 years to helping individual taxpayers, business owners, CPAs, Enrolled Agents, and tax attorneys navigate the complicated tax systems of the federal and state governments. Mr. Schriebman is in private practice. He is not affiliated in any way with the EDD, and he is not employed by the EDD or any other agency of the State of California.
Robert Schriebman has written the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.
Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House.
Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House in addition to the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.
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