For the 2012 filing season, the IRS has added another page to the Earned Income Credit Checklist (Form 8867). This is the form tax pros complete to document their due diligence when a taxpayer’s return includes the Earned Income Credit. The form, in one form or another, has been around for over 10 year but last year the IRS started requiring the form be included with any return requesting EITC.
The Earned Income Tax Credit (EITC) is a refundable credit targeted at low income families. It was enacted in 1975 to offset the social security taxes taxpayers with children paid through withholding. At that time, the credit was 10% of wages up to $4000. But in 1986, the credit was seriously expanded. There have been several more expansions of the credit. Today, EITC is available to taxpayers with and without children and on 2011 returns the maximum credit is $5700. In 2009, the IRS processed 27.4 million tax returns and paid $60.4 billion in claims. 23 states have their own variations of the credit.
EITC is a good program and helps a lot of families. Unfortunately, it is a fraud magnet. According to TIGTA’s May 2011 report to the House Ways and Means committee (download), The IRS estimates between 23% and 28% of the EITC payments are improper. In 2009, this resulted in $11 to $13 billion in improper payments. As part of a program to reduce the bad EITC claims, the IRS has begun to put more pressure on the tax professional community. If a paid preparer doesn’t do adequate due diligence to make sure a client does qualify for EITC, they could face a $500 fine for each client they qualify but shouldn’t have.
The current form 8867 not only acts like a check list for each EITC qualification but now asks about what documentation was provided and what follow up questions the tax preparer asked. For example, one new question ask if the tiebreaker rules were explained when the qualifying child could be claimed by more than one taxpayer. The new page wants to know what documentation, if any, the preparer saw to verify EITC issues like residency, business income and child disability.
My concern is a possible change in IRS interpretation. Preparers have always been told that we aren’t responsible to audit the records taxpayers bring in to us. We need to ask questions and make sure we understand how the documentation was put together. If something seems wonky, ask more questions and document what we find. The new EITC questions could make it easier for the IRS to pull out returns to investigate further not because there is concern that the EITC on that return is fraudulent but because a box wasn’t checked. A box that is not required to be checked.
Last year, I created an interview form for EITC that not only makes sure I ask about everything but gives me a place to write questions, responses and notes about the EITC interview. And since most of my EITC clients have been with me for years, I’m not worried about the credit being questioned unless the auditor doesn’t understand the purpose of Form 8867 is to aid the preparer in doing their EITC due diligence. The form is not a pre-audit of the taxpayer. If a preparer is preparing fraudulent EITC claims, they will have no problem with lying on Form 8867. Investigate good EITC claims because of nothing more than what is on the Form 8867, and more good preparers will stop doing EITC because of the hassle involved. How many of their clients will end up with a bad preparer?